A damaging global dry spell is wilting wheat crops in Kansas, threatening exports from Russia and slowing sowing in Australia, serving a timely reminder to hedge funds that a new era of surplus grain is far from assured.
In their biggest surge since 1996, Chicago wheat prices jumped by more than 17 percent last week and reached a nearly 9-month high of more than $7 a bushel on Monday, a rally stoked by short-covering among big speculators - a group that had amassed a near-record short position betting on falling prices.
By Tuesday, six days of buying subsided as analysts said the immediate weather-induced panic yielded to a more considered view: conditions are not as dire - at least not yet - as they were in 2010, when world trade in wheat was sharply curtailed as growing nation's held tight to limited supplies.
Chicago wheat prices tumbled 2.6 percent to $6.85-1/2 per bushel, snapping a six-session rally following forecasts for rain in Russia's drought-stricken breadbasket regions and on pressure from a strengthening dollar.
New forecasts for rain in Russia and Australia should help limit damage; global stockpiles are more than 50 percent than in 2007; and rising demand for wheat as livestock feed is curtailed by higher prices, easing demand on tightened supplies.
And yet new risks are rising: Australia's Bureau of Meteorology warned of a possible return of the El Nino weather pattern later this year, threatening to sap rainfall for a country that exports nearly one-sixth of global trade.
"In light of what happened in 2010... everybody is more sensitive," said Rich Feltes, vice president for research with futures merchant R.J. O'Brien.
Global stockpiles of wheat are forecast to dip next summer to the equivalent of 100 days worth of demand, according to the USDA's forecast earlier this month, the lowest since 2009, when inventories were recovering from several years of declines.
But global supply would have to drop by more than 50 million metric tons (55.1 million tons) - equivalent to almost double U.S. exports - in order to reduce inventories to the ultra-low stocks-to-use ratio of 72.5 days, the level that in 2007 triggered a price spike and global alarm over global inflation and food security.
How dire the situation becomes this year will largely depend on what happens with weather in the former Soviet Union (FSU) countries, said Feltes.
"I don't think it's down to the bread counter yet. But if conditions worse in the FSU it will be more of a significant issue."
ALL DRIED OUT
There is no question that detrimental dry weather has been eating away at the projected bounty for this year's wheat harvest, but until northern hemisphere crops are harvested in the coming weeks it will be difficult to know how bad the damage is - and whether it gets worse in the intervening weeks.
"The weather conditions in Russia have been damaging to the crop. The U.S. is the same way," said Jefferies Bache analyst Shawn McCambridge. "Production has been reduced. That has potentially tightened up the balance sheet. But we've priced in our expectations at this point.
"Now we need to prove up those expectations."
The quality of the crop in Kansas, the biggest U.S. producing state, suffered its worst one-week downgraded in 4-1/2 years last week.
Some U.S. Plains producers have cut poor fields for hay, while others have simply resigned themselves to lower projected yields as soil moisture levels have rapidly depleted in the absence of rain.
Russia is the top concern though, particularly after one of the worst droughts on record in 2010 cut Russia's crop to just 41.5 million metric tons, forcing Moscow to close its door on exports.
The U.S. Department of Agriculture expects it to export 20.5 million metric tons in the crop year to June 2012, about 14 percent of global trade, but analysts say that could fall by a third due to a combination of bad weather and still-low domestic stocks.
French agri-consultancy Agritel's bureau in Kiev on Friday projected a 2012 crop at 50 million metric tons and 53 million metric tons, down from 56.2 million last year and well below the USDA's 56 million.
"The main producing region recorded undeniable winter damage and is now facing a water shortage," said Agritel.
Ukraine's winter wheat crop was also expected to fall this season due to a severe drought that started in late summer last year, followed by a cold snap in January and February.
A senior weather forecaster on Monday pegged it at no more than 12 million metric tons, from 23 million in 2011 due to poor weather [ID:nL5E8GL337]. Agritel sees Ukraine's 2012 wheat crop at 13.5 million metric tons, down 40 percent on year.
In Kazakhstan, the wheat crop is pegged at about 18 million metric tons against 23 million in 2011, putting the whole Black Sea harvest this year at about 84 million metric tons, down 17 percent from 101 million metric tons last year but still far above the 68 million harvested in 2010, according to analysts.
NOT ALL IS LOST
Still, a turn to better weather could still have an impact, said Agritel analyst Gautier Le Molgat.
Rains are forecast in some of Russia's drought stricken southern agricultural regions in the coming days, but hot dry weather will persist in south central European Russia and the southern Volga valley, the state forecaster said.
"It's true it's dry in Russia and that the situation of the crops is worrying but the last months can change a lot," said Le Molgat.
In the United States, though harvest of hard red winter wheat, a key bread-making grain, is already underway, rainfall could still help boost prospects in northern parts of Kansas and other states where harvest has not yet started.
But overall production is still expected to be far better than last year and in line with or better than average. U.S. winter wheat was rated at 58 percent "good to excellent" as of Sunday, compared to 60 percent the prior week; if that holds, it would be the second-best rating of the crop of the past 12 years.
In Australia, dry weather is also a problem for farmers who are just now in the midst of planting their new wheat crops.
Although the La Nina system brought good soil moisture earlier this year, the east coast has had practically no rain in recent weeks, putting seeding behind schedule and threatening the future of the premium-quality wheat crop. Western Australia's grain belt has had below-average rainfall.
"Eastern Australia planting got off to a very strong start but has slowed in recent weeks," said Luke Mathews, commodities strategist at the Commonwealth Bank of Australia.
In the meantime, many analysts reckon that last week's purging of short positions by hedge funds has likely run its course, providing a degree of equilibrium for the market.
As of a week ago, speculators in the three main U.S. wheat futures contracts were net short more than 45,000 contracts, according to weekly Commodity Futures Trading Commission data, their biggest such bearish position since April 2010, just months before the drought decimated Russia's crops.
"In one week the fund boys who had taken their eyes off the ball because they were more busy with Greece, the dollar, the French election, suddenly realized that the garden was not as rosy as they thought," Geneva-based Agrinews analyst James Dunsterville said.