For producers who had endured the dismal markets throughout '98 and the first half of '99, the USDA's June 1 Hogs and Pigs Report was supposed to provide some light at the end of a long, dark tunnel. But, the light at the end of the tunnel turned out to be a high speed train. In the wreck that occurred, producers were left flattened as the train, loaded down with pigs, roared on.

The report showed the breeding herd was not 8-10% lower than a year earlier, as was expected. Instead, the breeding herd was reported down only 6% and the market hog inventory was down only 2%.

The market reacted viciously. Four "limit down" days took $8/cwt. (carcass basis) off the market. This in the wake of pre-report price action in June that had already reduced prices $6/cwt. (see Table 1).

"The report wreaked havoc on the attitude and bank account of the independent producer," says Walt Hackney, a marketing consultant based in Omaha, NE. "The situation now is more serious in many ways than the last quarter of '98," says Hackney.

He points out that only about 40% of his client base took advantage of spikes in the market during April and May, taking positions that would guarantee a $38-42/cwt. (live basis) price by using futures, options and some short-term packer contracts. Some of these strategies even allowed room for capturing some of the upside move.

Hackney estimates 60% of the producers he works with were optimistic about the prospects for $45-50 cash hogs, or better. "A lot of guys had the attitude that they needed to replenish cash lost last year," says Hackney. "Now they're like the mouse in the trap who says 'to hell with the cheese just get me out of here.'

"It looks like we may lose 20% of the independent producers in our group," he says. Those producers will sell the sows rather than risk eroding their asset base further, he adds. Some may stay in the industry though, buying feeder pigs if a profit is available.

NPPC board member and DeWitt, NE, producer Max Waldo says the report was devastating and left many producers "almost assured that we're not going to make a very high return, long term." Waldo thinks people will now get out of the business as they determine the return to their operation is not reasonable.

Waldo believes something had to give. "We've had a lot of big money come in at very low interest rates chasing the industry's historically attractive returns. We've had existing operations getting bigger to stay competitive."

It could take a while for this market to turn around, says analyst Chuck Levitt, Alaron Trading, Chicago. Levitt says he felt "disappointment that the industry did not move more aggressively to try and pare down production." Now, Levitt looks for the size of production in the third quarter to be inflated by sow liquidation, and a lighter holdback of gilts, further pressuring prices.

Levitt says the real kicker in the June report was not the size of the breeding herd, nor the size of the market hog inventory, but the size of the March-May pig crop. At 26.3 million head, this pig crop came in 1.1 million head greater than the March farrowing intentions number had indicated, he notes.

Levitt says the market was hoping to see farrowings reduced by 7% in March-May and that the 3% "over slaughtering" of pigs (more gilts, sows and boars in the slaughter mix than usual) that showed up in the final quarter of '98 would be gone in '99. Instead, the report showed the spring pig crop reduced only 2.5% and the report as a whole left us in a bearish mood meaning that "overslaughter factor" could still be there, says Levitt.

That's the worst case scenario. When all is said and done, Levitt thinks the fourth quarter will probably show numbers down about 6%. He projects fewer Canadian hogs coming into the U.S. as a new packing plant opens in Manitoba this fall, possibly some bred females going to town after the report, and most likely less "over-slaughter" than last fall. "I'd look for a quarterly slaughter of 26 million or a little less. Prices are not going to be a disaster like last year, but they're not going to be good," he says.

On a live equivalent basis, Levitt estimates prices between $25-30/cwt. "We're still carrying previous excesses in cold storage (see Figure 1) and that will act as an umbrella over the market," says Levitt.

What could help? Levitt points to the USDA as the wildcard. The USDA will be active in trying to assist producers with pork purchases and other programs.

"The USDA won't be able to cure the problem. To get back on its feet, to get profitable, the industry must help itself. Top to bottom, it needs to adjust production levels," says Levitt.

Leroy Louwagie, Professional Commodity Investors, Mankato, MN, fears production levels may be tough to cut. "We're still seeing 'subliminal expansion' as producers are working to get more pigs through existing facilities, doing a little better job at everything," he says. Also, he observes, as some barns are changing hands, the new guy may make improvements, making it work a little bit better.

"We see sow liquidation, but we also see genetic improvement, new and better gilts, which means more subliminal expansion," says Louwagie. And, he notes, though not as frenzied, there still are some barns going up and no existing barn is going empty.

Despite this, Louwagie says the report really wasn't as bearish as the market's reaction to it would indicate.

"Yes, the packers are concerned we're going to push kill capacity again in the fourth quarter, but if that doesn't happen I think we may have seen our seasonal low, usually attributed in September-October, pulled forward into June-July," says Louwagie. He predicts a $5-7 trading range with the nearby contracts holding $30 on a live basis.

Of course, some operations are more insulated from the swings in the market. Bill Scheve, Norwest Ag Credit, York, NE, says two of the larger accounts he works with had negotiated long-term contracts with packers and are not as severely affected by the price swings. "These guys had pretty much positioned their operations to operate in a high-volume, low-dollar amount per head environment," says Scheve.

"Some of the other operations we see maybe have only a formula that guarantees shackle space and a little over base," he says. Some question whether there's enough profit per head to justify staying with it. "If they're only at 2,000 head a year marketed, they're thinking maybe it's not worth the effort. Maybe they'll go after another one-quarter section of ground instead," Scheve explains.

Even some larger operations are evaluating options. A friend of Scheve's, not a client, says he borrowed money for the first time on his 1,000-sow operation. Successful operators like that will have to decide how much of their profits they want to give back, says Scheve.

Most are matter of fact about the decision. "In the '80s, there was a real stubbornness of people to ride it out, no matter how bad it got," says Scheve. Now, with the economy better there's more off-farm employment opportunity - for both husbands and wives, he says.

Scheve says for most producers, lender relationships are now more fluid and on-going, not as dependent on an annual review where everything can come crashing down at once. "We're monitoring on a monthly basis, anyway, with our large loans, checking inventories on a regular basis. We're not to the point of counting heads or weekly cash flows," he says. "We've got smarter borrowers; hopefully, we're smarter lenders."

Some builders say construction has ground to a halt as lenders require 60% equity down on a loan. Scheve says in his area there are no hard and fast rules on equity requirements. They look at each individual's status. Generalizing, though, he says in the past maybe they'd look for 30% down, or with a real strong balance sheet, 20% down. Now, it would take a strong financial statement and 35% down, he says.

National Hog Farmer surveyed a cross-section of the industry to get an idea of why liquidation has not proceeded as fast as some have expected. These are the top 10 reasons.

* Packer-owned or packer-contracted production. Vertical integration and vertical coordination means producers are taking their production signals from packers, not the market.

* Contracted production has been embraced not only by packers but by feed companies and genetic companies. Production signal is taken from a company contract, not the market.

* Contracted production also is present between "independent" individuals; both sides are tied to long-term production levels.

* "In-ers and Out-ers" are out. Those that are in the picture today are pork producers who look to the pork enterprise as a primary farm enterprise.

* Futures market has offered opportunities in 1998 and 1999 to hedge decent returns.

* Farms that do go broke are being transferred, not shut down.

* Expansion that was financed and planned in 1997 and 1998 is still coming online.

* Cost of production is down due to cheap corn and soybean meal, low interest rates. That means $30-35 is tolerable for some.

* Equity position of many producers was strong heading into this downturn.

* The liquidation option is not attractive with low sow prices.

University of Missouri economist Ron Plain says he's not sure whether the market is taking into full account the impact of the Accelerated Pseudorabies Eradication Program (APEP).

While the USDA is not breaking down the numbers of the 500,000-plus hogs euthanized and sent to rendering in the program by sow or class of hog, they are reporting the amount of money paid to producers. Plain says the size of these payments ($38.2 million total as of July 18) implies that sows compose a greater percentage of the APEP animals than they do of the overall swine herd.

If sows make up the same percentage of animals in APEP as they do in the overall U.S. herd (roughly 9.5%), then approximately 48,590 sows were euthanized by APEP in the first half of '99.

Federally inspected sow slaughter in the first six months of 1999 totaled 1.64 million head, not quite 1% more than were slaughtered during the same period in 1998. If 48,590 APEP sows are added to the total, sow loss is up 4% compared to last year.

If 100,000 sows (Plain's conservative estimate, based on the USDA payments) have been bought out in the APEP, then sow loss in the first half of '99 was 7% above year earlier.