By K.T. Arasu and Theopolis Waters
CHICAGO (Reuters) - Texas rancher Jim Selman is on the verge of going out of the cattle business, a victim of one of the worst droughts since the Dust Bowl in the 1930s.
The more than 300 cattle on his 3,000 acre ranch in Gonzales county have dwindled to a mere seven, as the verdant pastures turned into dried up brush and hay prices went through the roof.
Scenes like this have become the hallmark of the once robust ranching community in Texas, the cradle of the cattle industry that began with the pioneers heading West to set up homesteads, and to a lesser extent in states like Oklahoma and Kansas.
And fears that the United States will 'run out of cattle' and suffer from a shortage in beef supplies -- raising prices at restaurants and supermarkets --- have lit a fire under the live cattle futures market at the Chicago Mercantile Exchange.
Futures have surged 40 percent over the past five years, peaking at a record 126.075 cents per lb on Friday. They are up 15 percent since the start of 2011, but were taking a breather on Monday at 124.400 cents after trading to a flat close.
The U.S. Department of Agriculture will issue its biannual cattle inventory report on Friday that is expected to show further shrinkage in the size of the U.S. herd, which is already the smallest since the 1950s.
"I will not be terribly surprised if prices head even higher," said livestock analyst Dan Vaught of Vaught Futures Insight in Altus, Arkansas.
He, however, said prices will first likely retreat during the winter and spring when supplies typically rise and also due to poor margins for beef packers, companies that buy cattle from feedlots and process them into meat to be sold to retailers.
"I don't see prices going a whole lot higher in the short run. Margins are extremely poor for packers. My suspicion is that they are going to be much less active in pursuing cattle this week and next," he said.
RUNNING ON FUMES?
Beef packers were, generally, swimming in red ink because the price of beef has not kept pace with the surge in cattle prices. In fact, they were making a loss of $102.05 for each head of cattle processed on Monday, according to Hedgersedge.com LLC, an agribusiness risk management and market research firm.
The data showed that packers have been running losses since the middle of September.
"That the wholesale beef market is flat, has stalled, to me is an important factor at this particular juncture," said analyst Dale Durchholz of Agrivisor Services in Bloomington, Illinois.
"When looking at the basic demand ingredient, prices are telling you something entirely difference from the supply side. Are we running on fumes?" he said, adding that beef packers will begin to cut back production if losses are prolonged.
Beef packers have been buying cattle despite running heavy losses because they needed to meet previously signed contracts to deliver beef, and that they want to protect market share by keeping production steady, traders said.
But Durchholz said these packers could give market share less importance if the losses continued.
Retail beef prices hit a record high of $5.01 per lb in December, eclipsing the previous of $5 set in November.
A key driving force behind the surge in cattle futures has been investment by index funds, which take market positions for long-term benefits, and other money managers, analysts said.
"The funds will grab on the trends because they are momentum players and you had fundamentals on your side because of the declining cattle numbers," Ocrant said, referring to commodities funds that track market trends and revise positions regularly.
The net long positions held by index funds rose by more than 50 percent since May 2011.
DROUGHT IGNITES CATTLE MARKETS
A historic drought in the southern Plains that has lasted about a year is at the heart of the rally in cattle prices, as the absence of pasture forced ranchers to liquidate their herd or send them to feedlots at an accelerated pace.
Cattle usually feed on pasture until they are around 600 lbs (272 kg) before ranchers send them to feedlots, where they are fattened on a steady diet of corn until they are about 1,200 lbs -- when they are sold to meat packers for slaughter.
The lack of pasture, coupled with a surge in corn prices, which hit a record high near $8 per bushel in June last year, forced some ranchers to send cattle that were below 600 lbs to feedlots, shrinking supply of calves.
This reduction has led feeder cattle futures to multiple record highs this month as feedlots scrambled to secure supplies. Demand for these feeders was also stoked by a recent slide in corn futures at the Chicago Board of Trade to around $6 due to more than expected U.S. supplies.
"As far as cattle go, because so many of them were brought in because of the drought there isn't a lot to choose from now," said Joe Ocrant, president of Oak Investment Group and a registered Commodity Trading Advisor.
"Also, a lot of the cattle that are coming out of feedlots now are lighter weight cattle, which means we're getting less beef from them," he added.
In what analysts said was a sign of the shrinking supply, the USDA's cattle on feed report on Friday showed that the number of cattle placed at feedlots for fattening fell 6 percent from a year ago in December, the biggest drop since May 2011.
Strong beef exports to countries such as South Korea and Japan, which have fully resumed imports for the first time since the outbreak of mad cow disease in the United States in 2003 have also been driving prices for cattle higher.
(Reporting by K.T. Arasu and Theopolis Waters; Graphics by Gavin Maguire)