In an inflationary cycle, some commodities tend to make their move later than others. Over the first six years of the commodity bull, some commodity indices were up as much as 300% while crude oil soared more than five fold. Over that same time period grains prices were up only 30 percent. Grains have now started to move, climbing about 70% over the last 2 years. Given the bullish underlying fundamentals, the grain sector will likely be a stellar performer for the next several years.
Climbing food prices have begun to cause political instability resulting in riots around the world. This frightening situation most likely will continue to get worse over the next several years. The energy crisis, credit crisis, soaring demand, and the threat of natural catastrophes all enforce the bullish fundamentals for rising grain prices.
We have been fortunate to produce record amounts of grain every year for the last 17 years. Despite this fact, we are still at record lows in the world grain supply. According to William Doyle, CEO of Potash Corporation, “grain farmers will need to harvest record crops every year in order to meet increasing global food demand and avoid famine.” Global grain stockpiles fell to about 53 days of supply last year, the lowest level since record keeping began in 1960, according to the U.S. Department of Agriculture.
With a rapidly increasing middle class and population growth, the developing world’s consumption of grains and meats that require massive amounts of grains for feed is rapidly increasing. For example, the consumption of meat on a per capita basis in China is currently about 1/3rd of that of the United States. With a population of 1.4 billion, even a small shift in meat consumption will have astronomical effects.
Government mandates in the grain markets are also having a severe bullish impact on grain prices. The use of food for fuel is a prime example. It is estimated that 30% of the US corn crop will be consumed in the production of ethanol in 2009. At a time when we face the threat of a global food crisis, farmers in the US are being paid 30 billion a year not to farm.
The risks of nature in the agriculture sector are greater than ever. Global climate changes have shifted, causing an increased probability of droughts and floods. According to the CRED, natural disasters have increased 5 fold since 1975.
Time trend of natural disasters. Source: CRED
The global grain supply is also at risk due to pests, diseases and other disorders in crops. A virulent strain of wheat stem rust, Ug99, that sprung up in Africa in 1999 has now spread into other parts of the world. It is feared that it could spread into other wheat producing regions of Asia and eventually the entire world. According to the Food and Agriculture Office of the United Nations, about one quarter of the world’s wheat crop could be affected by Ug99 this year. Asian soybean rust is another example, which has recently spread into Brazil, and is adversely affecting crop yields.
Inflationary pressures also support the bullish grain fundamentals. The Federal Reserve’s attempt to resolve the credit crisis is one example. While we may only be in the initial stages of the crisis, the banking system has suffered losses in the area of 300 Billion. Most of these losses occurred in the area of mortgage backed securities and CDOs. It is very possible that there may be more write-downs to come as consumer credit, corporate bonds, and prime mortgages remain in a precarious state. Referring to the potential massive losses yet to come, Professor Nouriel Roubini said, “1 trillion is not the ceiling, but is the floor to what the losses for the financial system will be.” Over the same time period the Goldman Sachs Commodity Index soared by 30% to all time highs. If we suffer another $700 billion in losses, it is hard to imagine what the feds actions and the longer term inflationary impact might be. The rising input prices for crop production, including fuel, petro based fertilizer and transporting grains will also send an inflationary ripple through the grain markets.
Continuing fears of what may develop within the grain markets has recently driven investment demand to all time highs. Another issue of concern is hoarding and the governmental halting of exports. For example, India, Asia, and the Middle East have all taken actions along these lines.
In conclusion, the fundamentals support a long term bull market in grains. Investors should expect grain prices to continue to rise and outperform the commodity sector as a whole. Investors who are seeking protection from the global food crisis should seriously consider an investment in grains. If you would like to discuss a strategy for trading the grains you can call me at 1.877-377-7936 or email me at jared.irish@archerfinancials.com .
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