Bryan Doherty: A repeat of 2008?
The way the grain markets have rallied since the end of June, it appears that the environment changed from the previous 12 months of trade activity. Just to review, corn, soybeans and wheat markets were under pressure into June on prospects of good crops and concerns that world economic conditions just were not going to lend themselves to strong end-user buying. In addition, finance reform by the current administration and a general belief that speculators were not going to be actively involved in markets as they were a couple of years ago, also tempered bullish enthusiasm.
However, since June 30, when friendly stocks and acreage reports for corn began to lift commodity prices higher followed by drought in Europe and Russia, commodity markets are once again the place to invest. The stock market has been on shaky ground with uncertainty on what will happen in the year ahead due to political elections, the expiring of the Bush tax cuts, and uncertainty with the passage of health care. All of these factors seem to be weighing on investor sentiment. Due to this uncertainty, it appears that money has shifted back in commodities as, once again, the idea of tightening world inventories is making for more opportunities for investors in raw commodities.
So, what is different from 2007 and 2008? First of all, world wheat stocks are still estimated to be about 40 million metric tonnes higher than they were at that time. Therefore, the wheat rally on Russian drought may be overdone. The question is whether or not the world is going to ration wheat supplies. According to world stocks figures, there doesn’t seem to be much of an argument for wheat to be priced higher than what it currently is. Yet, the market may be ahead of itself, anticipating potential weather concerns elsewhere in the world. As for the corn market, there is a fundamental argument that suggests the need for big crops year in and year out. Any inclination that there could be less than large crops could rally prices. Bear in mind that since the beginning of the decade the advent of ethanol and a more keen investment community has helped to keep the corn market volatile and active. Perhaps the reality that China’s demand for US commodities, especially soybeans, could be more prevalent and larger than expected also is an undercurrent of the surprise that didn’t exist 2 to 3 years ago. The US soybean crop was record large in 2009. South America followed that with record large production and currently the US is expected to have a record crop for 2010. Soybean prices continue to hover near $10.
Perhaps the biggest difference from 2007 to 2008 is that the input cost structure for producing commodities has moved to a higher level and is showing little sign of retreating. Since commodities have historically been more of a margin business, prices have a tendency to hover near the cost of production. When uncertainty exists, prices rally above these levels. When it appears excess supplies will be available, prices move below the cost of production.