Back in May, I wrote about the dire state of global food supplies. At that time, grain stockpiles were at their lowest in decades, with only 50 days of supply. Food security was at risk, as demand spiked from increased human consumption and government mandates to use grain for biofuel production. At the same time, agricultural stockpiles were contracting from the mysterious disappearance of pollinating bats and bees, the conversion of prime farmland into housing developments, and hostile weather conditions in key growing areas.
Eight months later, food supplies have increased dramatically. The agricultural markets look troubled on a technical basis when priced in U.S. Dollars. Orange juice, sugar, corn, and rice are in a downtrend even after substantial price drops. The milk, soybean and wheat markets are trendless, looking for a catalyst to move one direction or the other. Buzz in the media about the possibility of a global depression has kept the commodity markets on edge.
Early predictions for the U.S. grain harvest were dire, as flooding submerged crops throughout the U.S. heartland. The condition of American fields is globally significant as the nation is the world’s largest grain exporter. However, the weather unexpectedly cooperated with farmers in the latter half of the growing season, and the U.S. produced a bumper crop of most staples.
The American corn crop had an excellent year, with the United States Department of Agriculture (USDA) expecting a 12.02 billion bushel yield - the second largest crop in history. The futures price was impacted by the reversal of fortune, correcting from a high of USD $7.99 in June to $2.93 today. The corn price was also hit by the drop in ethanol demand, as a recession in the developed world and lower crude oil prices decrease the need for biofuels. Despite lower costs, U.S. grain exports have suffered as Eurasian countries seek closer suppliers like the Ukraine or Russia.
Despite this bearish price news, corn should form a bottom in the next few months. The CBOT corn futures already expect a 45 cent jump by September 2009, and that bet is probably way too low. U.S. farmers should get a boost as livestock producers decide to feed corn instead of more expensive wheat. The artificially high U.S. dollar is dampening demand for all exports, including grains, but the greenback should soon resume its downward trend. Even with near-record yields in 2008, by August 31 of next year corn stockpiles are expected to be very tight at 1.1 billion bushels, the lowest stocks-to-use ratio in over three decades.
The U.S. soybean crop is also robust, with a prediction of a 2.9 billion bushel harvest in 2008 - a 9% increase over last year. While the increase is significant, the futures price overreacted, plunging from $16.37 per bushel in July to $7.86. Grains usually are in contango (when the future price is higher than the spot) due to the cost of storage. However the contango in soybeans is proportionally low in comparison to corn, at only a 34 cent difference between the January and September contracts.
Although the soybean market is dominated by pessimism, I see many reasons for investor confidence next year. Dry weather in Southern Brazil and Argentina has already caused a halt in soybean planting. Lower expected yields in the Southern Hemisphere coupled with continued strong demand suggests that the USDA estimate of carryover stocks is much too high at 205 million bushels. China’s recent announcement of a USD $586 billion stimulus package should support demand for all commodities, and the country is now building soybean reserves to aid its livestock producers. If Argentine farmers go on strike again over export taxes, soybean supplies could be near zero by the fall. I expect prices to increase dramatically next year.
High prices for wheat spurred planting this spring, and stockpiles in May 2009 are predicted to be almost double this spring’s 34 year lows. The European Union increased production by 26% in 2008, leaving the EU with an ample buffer for the first time in five years. Wheat prices have suffered greatly, with a crash from $13.50 in February to $4.55 this week.
Nevertheless, this increase in wheat stocks still represents a “historically low” supply equalling 22% of annual world consumption, or less than twelve weeks. In addition, wet conditions have delayed the harvest of soybeans and corn, preventing many growers from sowing winter wheat crops. While this will temporarily boost supply as grain usually needed for seed will remain in inventory, this will decrease next year’s output. Wheat crops in Argentina and Australia have suffered stress from lack of rain and will likely yield less grain.
The grains share the same problems with other agricultural products, as the scarcity of credit will likely suppress food production next year. Lack of loans to purchase equipment means that farmers must delay planting, reduce acreage or both. The usual credit sources have increased interest rates and refused to allow weaker customers to borrow at all. In addition, spiking prices for diesel, fertilizer, farm machinery, and even seed make the current market prices unprofitable for many growers.
Another factor dampening global food supply is the decline of pollinators like bees and bats. This mystery is unfortunately far from solved. Approximately 9.5% of total agricultural output is dependent on pollination in order to reproduce, contributing upwards of USD $215 billion to the global economy. Honeybees continue to suffer from Colony Collapse Disorder, where adult bees disappear without a trace. Theories on the cause range from viral and mite infections, to poor nutrition, pesticide use, or abnormally large honeycomb cells. In 2006, the U.S. had to import honeybees for the first time since 1922, and in 2007, the number of commercial bee colonies dropped another 31%.
Bats are suffering from white nose syndrome, which has killed hundreds of thousands of these mammals in the Northeast United States. Some caves have been decimated, with 97% of their bat population gone. The syndrome is associated with a fungus, but scientists don’t know if the fungus causes the fatalities directly or if it simply causes the bats to awaken from hibernation in the depths of winter and starve to death. Not only do some species of bats help farmers with pollination, they also consume insects in large quantities, and their loss can unbalance the ecosystem.
Commodities to Rebound
All this gloom and pessimism from the markets has made me even more bullish on commodities. I disagree with the analysts that have labelled the rally in commodities a bubble. I don't think we've seen a commodity bubble for over two decades. To compare increases in food prices to the speculation in the housing sector just confuses the issue, as the fundamentals are completely different.
In contrast to real estate, the supplies of foodstuffs never reached an excessive level, as stockpiles are at multi-decade lows. Very few consumers ever speculated in food, while “flipping” of real estate was common. Food-related ETFs didn’t even exist a few years ago, that’s how novel investing in food is. Although builders became very wealthy during the housing boom, farmers benefited very little until this year. Corn, wheat, soybeans and rice sell for less on the Chicago Board of Trade than they did a year ago, while costs have jumped. Now that banks are reluctant to extend credit, the capital investment in agriculture will shrink to an unsustainably low level. Those are indications of a major market bottom, not a recently popped bubble.
Unlike discretionary purchases like theater tickets or electronics, consumers need to eat so they will continue to buy food. While demand for organic produce has dropped as people attempt to cut costs, only the very poorest will eat less as a result of the economic downturn. In addition, grain futures are currently very cheap on an inflation adjusted basis. Grains are the basic building blocks of everyone’s diet, and provide most of the feed for livestock producers.
I expect grains to make a strong recovery next year as conditions are aligning for another “perfect storm” in agriculture. While 2008 has been a strong year for food production, expect limited shortages to arise in the second half of 2009. The USDA predicts that global grain stockpiles will dwindle to 67 days of supply before the Northern Hemisphere harvests next year, almost as low as stores in the spring of 2008. Any bad news in 2009 should send the markets sharply higher.
A Shrinking Pantry
Even with an ample harvest, I fear for a serious food crisis in 2009 if the credit markets are not unfrozen. The Baltic Dry Index, which measures the global cost of shipping commodities, has fallen a precipitous 94% this year to the lowest level since 1987. While some of this decline can be explained by decreased demand and larger fleet capacity, the real issue is the severe credit contraction. Many exporters can’t get the letters of credit necessary to finance their commodity cargoes. Banks are only issuing credit to their best customers, and even then, the interest rates have soared. Most importing countries are dealing with the frozen drybulk shipping markets by eating through their stockpiles, a situation which is unsustainable. Depleted stores coupled with a poor local harvest could lead to famine conditions in the most impoverished countries next year.
I want to encourage readers to again stock up on nonperishable foods. In most countries, buying extra food in May when I first recommended it would have saved on grocery bills. You don’t have to buy anything exotic, just purchase extra supplies of the foods you normally eat, especially if you can take advantage of a sale.
Even if you live in a prosperous country, the ongoing credit freeze could make your favorite items expensive or difficult to get. Most Icelanders didn’t worry about getting their basic needs met during the boom. They never expected that a crisis would make foreigners reject their currency and cut credit to importers. Reports indicate the island only has three to five weeks of food left, a scary prospect. After learning of the crisis in Iceland, I think that storing some emergency food and water is an essential investment in your health and peace of mind.
Copyright © 2008 Jennifer Barry
