July 12, 2012 (TSR) – The bulls are back! From Goldman Sachs to hedge funds and index traders, bets on a second global food price shock are gathering steam as bad weather decimates crops in farming giants USA, Brazil, Argentina, India, Russia, the EU and Australia that feed the world.
A heat wave and drought have threatened to reduce output of corn by 2.5% in the US Midwest, the world’s top exporter. Heat has also shriveled wheat in Australia, China and the Russian Federation. The FAO has slashed its 2012 world cereals output.
Rain has affected the sugarcane harvest in Brazil, the world’s top producer, at a time when its production has slid to a three-year low. Rain has also affected sugar shipments from Australia, the world’s third largest shipper. The condition of the US soyabean crop, the world’s biggest, has fallen to its worst since the drought year of 1988. Other suppliers Brazil and Argentina have reduced output due to a La Nina-driven drought.
Hot weather has suddenly set the market alight. The S&P GSCI gauge of 24 commodities, which had tanked to a 20-month low on June 21, is since up 10%. Wheat is at a 14-month high, its biggest three-week rally since April 1996. Corn has gained 30%, its biggest rally since 2008. Soyabean has reached the highest since July 2008. Sugar has touched an 11-week high.
So are we heading back to the terrible crisis of 2008 when the world almost ran out of food? Or even the price spike of February 2011, which contributed to the Arab Spring? Not so fast.
Weather is improving in the US Corn Belt. Rain and cooler days have been forecast. US corn farmers have planted more area than last year that might compensate for lower production per acre.
Moreover, Brazil expects a record corn crop this year, which would add to the globally traded volumes. The return of dry weather in Brazil would limit the damage to sugarcane. Even if harvests in the major exporting nations are partly lost, there will still be no shortage. The world has ample wheat, corn, rice, sugar, and edible oils, says the FAO.
Demand is not soaring like it did in 2008. Corn, for instance, is mainly fed to animals and used in ethanol. Demand for meat and milk, especially in Asia, is sluggish because of the overall economic slowdown, while the profit margin in ethanol is squeezed by dull crude oil prices. Consumer confidence in the developed economies has plummeted.
Unlike 2008, the world is in no mood to pay the earth for food. Since weather is the only factor propping up prices, news of improved yields can easily prick this bubble. Of course, the bulls won’t give up easily. Other commodities such as energy and metals are suffering. Crude is down 13% this year. Faltering demand and sharp falls in industrial metals prices since last August have forced producers to cut output.
IMF has warned it will trim growth forecasts. Bad weather is the only good news right now in the commodity market and punters want to milk it for every drop.
Indian bulls are equally delighted. Our sugar, corn, soyabean meal, rice and wheat are high-cost commodities that normally sell at a discount to the world market because of quality. Higher global prices mean better margins for exporters. But India’s own weather market will make it a short-lived opportunity.
The monsoon situation is precarious. Almost half of the pulses and oilseeds, and more than 40% of the paddy planted across India, along with 34% of the sugarcane standing in Uttar Pradesh fields, appear vulnerable to damage from deficit rains. There is a good chance that the monsoon may falter in end-July and August, when crops reach pollination, which may further affect yields.
Rapid exports and possibility of reduction in fresh supply has already pushed up wholesale prices. With state elections round the corner, the Central government will be under tremendous political and RBI pressure to fight food inflation. Exports may be the first casualty even if the demand-supply numbers don’t indicate an actual shortage.
The sharp rise in global prices is reviving memories of the 2008 food crisis. But that is where the similarity ends. The other price drivers of 2008 – high demand, financial investment activity, expensive energy and fertilizers, biofuels, and export restrictions – are muted now. Hot and dry days across the world have the bulls snorting with joy. But gains from weather are notoriously fickle. The wise would pack an umbrella.
Source: Economic Times