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Some Big Picture Thoughts on Where Our Industry is Heading in the Next Few Years

Today, I'm waiting on a couple pieces of projects, giving me some "down time" to work on some of the continual analysis I do of the wine grape market. I just got inspired to share some insights and methods with my readers. This based off my question to myself "Where is the wine industry is going over the next few years?" Now, before I begin, a couple of caveats: I focus largely on coastal regions, especially the North Coast - keep that in mind when you interpret this blog post. Also, I focus largely on vineyards and grapes, not as much on retail sales.

OK, with that said let me share with you the various ways I analyze our industry's future:

Method Numero Uno - Foolproof Analysis

Wait and see what happens. You have a 100% chance of figuring out the future by waiting for it to arrive. No, I'm not just trying to waste your time by writing this. I'm trying to make a point - we should always remind ourselves that there is no real way to tell the future of complex systems. You can fire a rocket and have a computer calculate exactly where it will be one minute from now, but you can't do such a thing for the wine industry. On the other hand, we can do quantitative analysis to provide great estimates of where grape prices, vineyard expenses, vineyard prices, etc. are going. In fact, that's what I do for a living, with surprising accuracy. This post, however, is not about that - if you'd like something like that, this blog is littered with my past forecasts.

Causal Analysis: Hiring, Sales, Vineyard, New Plantings and Bulk Inventories

Wines & Vines puts out figures of retail wine sales trends and hiring trends. Ciatti and Turrentine both put out public information about bulk wine inventories. I look at these for guidance on where we're headed.

As of now, sales growth for wine as a whole seems to have slowed to unremarkable levels. By my estimate, to continue powering real (i.e. inflation-adjusted) grape price growth, we need yearly sales increases of at least 3%. I think we're falling a bit below that. Of course, our industry is not monolithic. Direct-to-consumer (DTC) sales are rising rapidly - presumably, good news for the coastal regions.

Bulk wine inventories look to have stagnated, however, especially for the top of the market. This may be an omen of choppy waters ahead or it may just be an indication that we're reaching a plateau, where buyers and sellers will soon converge. If you're an optimistic farmer, you could also suppose that it may just be a temporary hiccup on the way to continued price growth. One could also posit other theories, of course, about changing markets, etc., but I generally see it as a red flag.

Another thing that worries me that we've seen continual hiring increases, with hiring momentum continuing forward, even when sales and inventory news has become more mixed. My hope is that this hiring is feeding DTC sales, which are increasing. My fear is that our companies are scaling up for growth that is scaling down.

What makes me most bullish on a continued strong market for grapes is that new plantings and redevelopments have not been as frothy has historically occurred at this point in the grape market cycle. Of course, that depends what grape and region we're looking at, but seems to be pretty consistent across the state. Some growers seem to have learned from the past, others are stymied by NIMBYite regulations and others can't find new land appropriate for their market. I don't want to overstate this, however. We are seeing some new plantings and, if we are do experience torpidity in new demand creation, then even historically moderate levels of new plantings could knock prices off a cliff, or at least cause them to stagnate.

Macroeconomic Concerns

I am not a trained economist and so I am far outside of my wheelhouse here, but I cannot do my job well without analyzing the larger economy. I will spare you much discussion on this and let me just share my predictions:

  • There is a 95% chance that we'll see a recession within the next 5 years;

  • There is a roughly 5% chance it will begin with a contraction this year;

  • 15% chance in 2019;

  • 15% chance in 2020;

  • 30% chance in 2021;

  • 35% in 2022 or 2023.

  • The scope of the recession is much more uncertain - it could be a "regular" hiccup, much lesser than the Great Recession; or an economic catastrophe, where past economic weaknesses come back to haunt us, but are compounded by a volatile political situation, supply chain disruptions, sector-specific contractions and/or an unprecedented debt and deficit situation; or something in between.

  • My probability distribution could be shattered by sudden shifts from a wide range of disruptions from either natural or policy disasters.

If we were to see another Great Recession, I would estimate that would drive grape prices down by roughly 10%. Vineyard land prices would see a larger decrease, since 10% of revenue is equal to a much larger share of cash flow, upon which asset valuations are based. This pain would not be felt equally throughout the wine industry. Napa may fare much better. I'll throw out another odd prediction: I think that Washington, Oregon and District 10 (the Sierra Foothills), might also weather another recession pretty well, in terms of grape price.

Learning from History

When I forecast grape prices, I look at what we've been planting, how much and where it is. Price fluctuations can be relatively predictable via formulae where bearing acreage is used as a causal variable. On the other hand, sometimes univariate models work well. These are models that don't look at real-world variables. They assume that market behavior is similar to past market behavior.

You can do this type of analysis in a non-technical way, too. The chart below shows District 3 Chardonnay prices, adjusted for inflation. If you take a long-term view, you can identify a downward trend from 1978 to 1994, with an aberrant period of price increases between 1986-1988. Then there is a recovery period from 1994 to 2000. Since then, we've seen prices fall and then stagnate, in inflation-adjusted terms. One can theorize that, as of now, we are seeing prices:

(a) rise to unsustainable levels above the long-term trend; or

(b) move back toward a stasis at higher levels than now, but probably lower than historical highs; or

(c) we're going into a period that will see minor fluctuations around a level similar to today's.

And, of course, the optimistic grower's view is that we're about to see a period of long-term upward price growth.

But let's look a little bit deeper. We saw 16 or 17 years of prices moving downward, then a relatively brief period of prices rising. We have now seen 17 years of prices roughly staying where they are. I would encourage you to think then of 17 year periods with sub-periods and interim periods of shorter duration. My guess is we're going to see another period of a few years of price increases, similar to 1994-200 and then a long period of stagnant or falling prices, as in the past 17 years or 1978-1994, respectively. This is based on retail price trends and the chart below. When I look at a specific grape-region category, I often do this type of analysis prior to anything overly quantitative. It helps me work through the different possibilities.

Inflation-Adjusted Sonoma County Chardonnay Prices

My Golden Ratios

I also like to track some rough ratios between retail sales and grape sales. Let me be clear, if you want to poke a bunch of holes in how representative these ratios are of reality, go for it - you're right. But, rough proxies are better than nothing, as long as you remember that they are rough.

Wine Market Cycle Ratio 1

Wine Market Cycle Ratio 2

Taking a look at these charts, it looks like grape prices are not too high for the market to bear and that there may still be room for a couple years of modest price increases (in inflation-adjusted terms). My biggest concern about reaching that conclusion based solely on the charts above is that they are for the whole state. They aggregate together different regions that are not all in a single, coherent market. Still, I find these ratios useful data points.

OK, so where are we then, in the market? Well, I can't really answer that for you. For one, it depends where you are, what you're growing and what your specific situation is. Second, I charge money for that type of analysis! Feel free to contact me, if you're interested. Even if you don't, though, I hope you found this post helpful in analyzing the market. I will say this. Many of you who have spoken with me over the years know that, since, 2011, I've been predicting upward price growth through 2018. Based on lower levels of new plantings, I think I would revise that, in very general terms to 2018-2019. But, again, these are very general terms. If you want more specificity, you can see if I already made a public prediction or, again, reach out and let me know what I can do for you.

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