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China Carries A Big Stick
Following talk of China raising its interest rates to cool its economy, the commodity markets tanked Friday. Specifically, the China news dropped the CME Group corn prices to their daily low limit of 30 cents, soybeans to their limit of 70 cents under, and rice its 50-cent limit. Sugar prices experienced a dramatic 23% price drop from their previous day’s close. Plus, the CRB, a commodities index benchmark, fell 2%, culminating its largest 3-week drop ever.
This highlights the power that China wields on commodity markets.
China is the largest consumer of energy (surpassing the U.S. in September). China consumes 50% of the world's pork, ultimately needing protein from soybeans to feed its hogs. The Asian country has been selling large amounts of corn out of their reserve to suppress record-high corn prices, within its borders. Their corn prices hit a record level this week at $8.66 per bushel.
China is the world's largest soybean importer, and has been solely responsible for the growth in world soybean imports over the past decade.
China has become the world's largest soybean crusher, the world's largest soybean meal consuming nation and the world's largest vegetable oil importer.
Ann Frick, Prudential Bache oilseed analyst, says that because of the growth in demand from China, there is concern that world production of oilseeds, oils and meals, and soy complex commodities in particular will not be able to keep pace with the growth in world demand, led by China. “Hence, when there are market expectations that China will take measures to hold price increases in check, whether it is through sales of reserves, lifting of interest rates or controls on some market activities by some market segments, it can have a very powerful, but usually temporary, psychological impact.”
The bottom line, though, is that China has been growing very fast, but for a very low price level, Frick says. “In the near to medium turn, its measure to slow inflation may work against the market mechanism of balancing the supply with the demand. So, there may still be the need for higher soybean prices later on.”
Jason Ward, Northstar Commodities Investment Co., says the Chinese can easily impact grain markets across the board because they don't have enough of anything to sustain themselves. “So they will always hold the key on the demand side. So, as an export country, like we are in the grains, we will always go as they go.”
Tim Hannagan, PFGBest.com senior grain analyst, says China has 22% of the world’s population and only 7% of the world’s arable land. “The U.S. is China’s main grocery store for years to come.”
With so much power in the hands of one country, the U.S. grain markets are left vulnerable to the whims of China. With that in mind, U.S. farmers are urged to implement measures into their risk management plan to protect profits.
“I work with the farmer directly. The best advice I can give them is to protect profits. If they sell corn for a good profit, protect it with an option (usually pretty cheap insurance to protect the upside).” Ward says. And if they have grain they are sitting on, waiting for higher prices. It is always wise to protect the downside, in the event of a repeat of Friday’s market swing.
Hannagan suggests to take profits on long market positions. “I see us having a long-term buy opportunity before Christmas,” Hannagan says.
Friday’s selloff was probably needed and to some extent is also seasonal (after a post-harvest advance in soybeans), Frick says.
“So, if not China, there may have been some other triggering factor to change the market psychology on a short-term basis. This puts the market back into an area where the upside potential is large enough versus downside risk (usually a 2.5:1 ratio) to bring in fresh speculative buying,” Frick says.