Bank warns outlook not without risk

Despite positive market dynamics, there are some risks to Fonterra's payout outlook, ASB has warned.

The dairy giant has increased its payout range before retentions by 10c to $8-$8.10 per kg of milk solids for the 2010-11 season, while the opening forecast payout range for next season is $7.15-$7.25/kg.

New Zealand's increasing reliance on China as a major dairy export destination and driver of price posed a threat, the bank's latest rural economic update said.

Potential for an overly strong stance from the Chinese Government to control its inflation rate and its national economy generally could impact on Chinese consumption levels.

In addition, EU and US dairy production was growing strongly versus previous years and the expectation of more dairy product from those regions hitting the export market might dampen international prices.

China continued to be a major dairy market for New Zealand, accounting for 25%-30% of monthly dairy exports.

ASB believed developing Asian demand would continue to fuel dairy demand over coming years, with demand likely exceeding supply for the next two to three years.

It could be expected that consumption could fade at current high pricing levels, but that had not occurred.

A potential negative for the payout in the coming season was the NZD/USD exchange rate.

ASB forecast it to peak at 85c over the next six months.

While that would typically be seen as negative for the dairy payout, given Asian market importance, it would not be surprising to see US dollar-denominated dairy prices rise in this case, partly offsetting the exchange rate impacts.

The payout announcement reinforced ASB's view that it had structurally moved higher to over $6/kg on a long-term basis, although there would be times when it could move significantly below or above those estimates for short periods.

The strong forecast from Fonterra reflected currently high dairy commodity prices. Despite falling over recent months, dairy prices remained around 2.2 times higher than their pre-2007 average.

The benefits to the wider New Zealand economy were likely to be minimal over coming months, with the bank expecting the majority of the strong farmer payouts being used to repay debt over the remainder of the year.

 

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