Tag Archives: agriculture

Rice’s Price Could Head Sharply Higher (S. Constable, Barron)

Observers of the rice market worry that there could be a repeat of the food crisis of 2008. If there is, prices could soar from current depressed levels.

In 2007-08, a combination of export restrictions from major rice-producing countries and speculative investment purchases caused shortages of the grain. Consumers across Asia panicked, buying and hoarding whatever rice was available, while Haiti saw riots.

 In the U.S., certain grocery stores limited rice purchases.

As the supply situation worsened, prices catapulted to more than $24 per hundred pounds by April 2008, from about $13 near Thanksgiving 2007.

This time, prices have been on an almost continuous slide for the past 17 months, discouraging growers even as demand increases. Rice is trading around $10 per hundred pounds, down nearly 40% from the end of 2013.

“Current levels of supply against demand are very similar” to the food crises of 1972-74 and 2006-08, says Shawn Hackett in a recent edition of the Hackett Money Flow Report.

The stocks-to-trade ratio, a measure of how much rice is in storage relative to how much is shipped around the globe, is 225%, a tad lower than the 233% seen in 2007-08 when prices started to surge, according to the Firstgrain Rice Market Strategist newsletter. The lower ratio means smaller stockpiles.

“Rice production is projected at a new record,” the U.S. Department of Agriculture reported in May. But “consumption is forecast to surpass production for the third year in a row, drawing down stocks to the lowest since 2007-08.”

TIGHT INVENTORY ISN’T the only issue. Short positions in the futures markets by speculative traders hoping to profit from further drops in the price have grown dramatically. In late-May, the number of bearish hedge funds and other money managers was more than 300% larger than those betting on higher prices, according to data from the Commodity Futures Trading Commission. That’s up from 49% more speculative shorts than longs a year earlier.

Big short positions can be bullish for the price because sooner or later those short positions will need to be closed out. When that happens, the speculators must buy an equivalent number of contracts, and as they do, it’s likely that rice prices will rally.

There’s more: Hackett sees unusual weather harming crops. Specifically, he pinpoints a “super” El Niño weather system in the Pacific Ocean as a potential problem. It “has the potential to cause production setbacks at a time when buffer stocks do not exist to offset them,” he writes, pointing to the major rice-producing countries of India, Indonesia, and the Philippines as particularly vulnerable to crop difficulties.

El Niño tends to cause droughts in the summer and floods in the fall from typhoons in all three countries, which produce about a third of the world’s rice.

Low prices for rice and bad weather are also causing some U.S. growers to reduce their planting. Firstgrain estimates that the acreage for long-grain rice in the U.S. will drop 5% this year.

Rough rice for July, the most actively traded contract, recently traded at $9.945 a hundred pounds on the Chicago Board of Trade. 


Investment: Revaluing commodities (G. Meyer, J. Authers, via FT)

Two pioneering academics make the case for commodity index investments

Commodities “couldn’t be hated more”, said the publicity for an investment conference in New York last month. The reason is simple: investors feel let down after a revolutionary attempt to invest in basic materials went horribly wrong.

Four years of negative returns for indices tracking futures, with a fifth under way, have undermined the idea that leaving part of one’s portfolio in a basket of oil, natural gas, soyabeans, copper and other commodities was prudent. “There’s zero interest right now from the institutional space,” says Lawrence Loughlin of Drobny Capital, which hosted the conference.

But that widespread disillusionment is not shared by a pair of academics who a decade ago prompted institutions from pension funds to asset managers to pour billions of dollars into commodity futures. This deep and liquid market had until then been largely untouched by the big investment institutions.

The duo, Gary Gorton and K Geert Rouwenhorst, both of Yale School of Management, have published fresh research supporting their original, controversial conclusions. The two central issues could scarcely be more critical to both investors and regulators.

First, did investors who waded into commodities after the publication of the academics’ first paper in 2004 wind up distorting the marketplace? Second, after years of poor returns, does commodity index investing still make sense?

The academics’ original research found that a futures index could offer similar returns to equities but moved out of step with either stocks or bonds. These low correlations were critically important to fund managers as they offered the prospect that commodities could continue to offer some return even if stocks turned down. There was an added sweetener: commodities protected against inflation better than stocks or bonds.

The past 10 years, they contend, have not significantly changed this picture. “I think you should always have exposure to commodity futures if you’re a large investor,” says Prof Gorton.

Failed experiment?

Institutions responded enthusiastically to the original paper, entitled Facts and Fantasies about Commodity Futures. The number of commodity futures contracts outstanding nearly doubled between 2004 and 2007.

Their big commodities experiment has so far been a disaster, however.

Commodity prices crashed with equities following the financial crisis and traded tightly in line with the stock market over the nervous years that followed, providing no diversification. When they finally parted company they inflicted more pain as commodities tumbled while stocks roared ahead. The Bloomberg Commodity Index has lost 37 per cent on a total return basis since early 2011.

“People feel they’ve been conned a bit. I think the enthusiasm for commodities is pretty limited at this point in time,” says Colin Robertson, a London-based former head of asset allocation for an investment consultancy.

Worse, politicians blamed the entrance of the new investors for the market’s problems, saying the influx had “financialised” commodities by distorting prices that should be shaped by forces of supply and demand. Implicit in their criticism was that bullish index investments were pushing prices up, hurting consumers.

US senator Joe Lieberman proposed that index funds and institutions be barred from holding commodity futures, saying: “We may need to limit the opportunity people have to maximise their profits because a lot of the rest of us are paying through the nose, including some who can’t afford it.”

The UN Conference on Trade and Development attacked financialisation and said index traders “can significantly influence prices and create speculative bubbles, with extremely detrimental effects on normal trading activities and market efficiency”.

Some academic research bore this out. Ke Tang of Tsinghua University and Wei Xiong of Princeton University found that financialisation made ostensibly different commodities such as grains and oil more closely correlated after 2004. The trend was “related to large inflows of investment capital to commodity index securities during this period”, Prof Wei wrote.

But Profs Gorton and Rouwenhorst are holding their ground. The new paper — Facts and Fantasies about Commodity Futures Ten Years Later — argues that the impact of financialisation was marginal and that their decade-old recommendation for institutions to hold commodities remains good. They co-authored the paper with Geetesh Bhardwaj, a researcher at SummerHaven, a $1.4bn commodity fund manager where Prof Rouwenhorst is also a partner.

The paper was published after the authors grew frustrated with the mounting pile of studies on financialisation. “We wanted to know whether any of this had any truth to it,” says Prof Gorton. “We can smell bad research from a long way off.”

The new paper, which has not yet been peer reviewed, acknowledges that after 2005 commodities did move more closely in line with other asset classes and with each other, especially during the financial crisis. The correlation between commodities and stocks — negative before — became strongly positive after 2005, which was just when asset owners most needed some protection from the crash in equities. This was disastrous for risk managers; institutions’ commodity investments had failed to spread or reduce their risk as intended.

Energy, metals, grains and soft commodities such as cotton and sugar also showed stronger correlations with indices after 2005, the authors show.

The new paper illustrates that these correlations have spiked before, notably during the early 1980s and the 1960s, long before financialisation became an issue. Lately, correlations have returned almost to zero. This is true even though index investors still make up 24 per cent of the open interest in major commodities, according to Barclays.

Prof Rouwenhorst says: “Why did correlations suddenly go down to pre-crisis levels? Financialisation suggests a permanent condition.”

Instead, he and Prof Gorton argue that the return to low correlations suggests commodities are once more primarily driven by supply and demand in their own markets, and not by fears in the stock and bond markets. Therefore, they do offer some hedge or diversification for big asset managers.

Further, they report data showing that fund managers and speculators constitute about half of the commodity futures market, virtually unchanged from a decade ago. Even though the total number of outstanding futures contracts has doubled, positions held by commercial companies using the futures market to hedge their risks have only risen in line with demand from financial investors.

“The markets have been invaded by a large colony of new speculators,” says Prof Rouwenhorst. But “the markets have grown proportionately”.

If this answers the charge that their recommendation to invest in commodities distorted the market, their suggestion that they are a wise investment still has to overcome huge scepticism.

Commodity prices often trace long arcs as farmers, miners and drillers take years to adjust supply in response to shifts in demand. Economist José Antonio Ocampo of Columbia University found the typical commodities cycle lasts two to four decades.

In 2004, commodities investing was fuelled by excitement over China. As its economy expanded, the country’s oil consumption rose by half between 2004 and 2011. Its soyabean imports doubled.

The appeal of the professors’ original 2004 paper was that it did not rely on anticipating commodity price cycles. Instead, it raised hopes that investors could make money by keeping a portion of their portfolio in commodities year after year, regardless of fleeting variables such as droughts that kill crops or wars that bottle up oil exports. But with China cooling and markets such as oil amply supplied, investors now view commodities “as opportunistic short-term investments” rather than anything more long-term, say Barclays.

Playing the long game

The scholars took a long view, examining the performance of a custom-built index of commodity futures contracts such as zinc and corn ranging from 1959 to 2004. That research was sponsored by AIG Financial Products, which used it to help sell derivatives contracts that allowed investors to buy index-linked bundles of commodities — and would later become notorious for the huge credit default swap bets that forced the US government to bail out its parent company in 2008.

Profs Gorton and Rouwenhorst established that commodity investors made money from collecting a “risk premium”, essentially a fee paid by producers for the service of allowing them to hedge the future value of a barrel of oil or bushel of wheat. They concluded that, over time, the risk premium in commodities was about equal to that in stocks and better than the premium in bonds — both of which currently look very expensive by historical standards.

Their new paper indicates that the commodities risk premium has fallen to 3.7 per cent in the past decade, down about 1.5 percentage points from its historical average. But this is because the Treasury bonds that investors often hold as collateral for their futures, are currently generating historically low returns. The critical point, they say, is that even now there is still a premium.

Some agree. Olav Houben, managing director of commodities at APG, the Dutch pension asset manager with $12bn invested in the sector, says: “As for expected returns, the story has been less compelling than in the past. But still, the diversification and inflation hedge from commodities are important to our clients.”

But evidence of commodities’ unpopularity is easy to find. Alasdair Macdonald, head of advisory portfolio management in the UK for Towers Watson, an influential investment consultant, says he is “biased towards only holding commodity futures when you think their price will go up”.

The last year that investors pumped net cash into commodity index swaps was 2010, according to Barclays. A trickle of outflows became a torrent in 2014, when investors yanked $24.2bn reducing the value of commodity assets under management to $67bn from a pre-criss high of more than $150bn.

The $36.4bn Harvard University endowment this year cut its target portfolio for commodities to zero. It was as high as 8 per cent in 2008. “We now consider this area less valuable as a method of diversification,” it explains.

But the academics remain unrepentant. “The fact that the past has been negative doesn’t necessarily mean you should suddenly leave. That’s just too late, ” says Prof Gorton. “The question is what can you do about the future.”

Modi’s growth plans and freak weather squeeze Indian farmers (by Amy Kazmin, FT)

For Prem Singh — a small farmer with 2.7 hectares of fertile farmland — and others in Aajnokh village in India’s northern state of Uttar Pradesh, the past decade has been a period of progress, helped by bountiful harvests and high crop prices.

Mr Singh added two rooms to his tiny concrete home, while others replaced their traditional mud huts. Televisions replaced radios. Motorbikes replaced bicycles. Tractors replaced the bullocks that once pulled ploughs through the fields. Telephony arrived, through mobile phones.

But after two disastrous growing seasons, the farmers of Aajnokh feel they are going backwards. Last year, their monsoon-season rice crop was hit by drought. This spring their wheat crop was severely damaged — pounded by unseasonal rains and a rare April hailstorm just weeks before the harvest.

Now, most are left with thousands of dollars in outstanding crop loans and could be forced to sell hard-won assets — or even, potentially, some of their land — to get out of debt. “This is the first time we have ever had crop failures in two successive seasons,” says Mr Singh, 60, who owes Rs450,000 ($7,000) to rural banks and local moneylenders and supports seven family members with his farm income.

Narayan Singh, the village chief, says the community’s 800 farmers are all under the same heavy pressure. “Whatever we have acquired in the last 10 years — bike or tractors — we’ll have to sell,” he says. “If that doesn’t work, we’ll have to sell our land.”

The plight of Aajnokh’s farmers — shared by many across north India’s normally prosperous farming belt — reflects the complexities facing Narendra Modi, prime minister, as he seeks to accelerate economic growth.

Buoyant rural consumption has been an important driver of growth in recent years, but many farmers are being squeezed by lower prices and freak weather that is sharply reducing their output. But as rural consumption fades, other economic drivers have yet to gather steam.

“Things don’t look good,” says Jahangir Aziz, chief Asia economist for JPMorgan. “For the last few years, rural demand was the only engine of the economy that was firing. Now you aren’t going to get any real support from rural consumption. But other parts of the economy — exports, investment, urban consumption — haven’t fired at all.”

With New Delhi pumping money into the countryside, farmers with irrigated multi-crop land acquired durable assets such as motorbikes and tractors, while even labourers bought mobile phones and consumer goods. But this came at a price: double-digit inflation, which eroded urban workers’ spending power as their grocery bills soared.

Agriculture contributes less than 15 per cent of India’s GDP but it remains the primary — if not the exclusive — source of income for about half the population, including landowners, rural workers and their families. Its performance therefore has a considerable impact on the wider economy.

During the later years of the previous Congress government’s decade-long rule, India’s rural population was on something of a spending spree, fuelled by high commodity prices and New Delhi’s much-trumpeted rural workfare scheme, which drove up rural wages.

Mr Modi’s government is moderating rural spending in an attempt to damp inflationary pressure and create space for the Reserve Bank of India to lower interest rates, which it hopes will foster an investment revival.

“India had to move away from consumption towards investment-driven growth and to rein in fiscal spending to create room for monetary easing,” says Rajeev Malik, chief economist of CLSA. “The pullback in terms of consumption was an important part of the broader macroeconomic stabilisation.”

But the financial adjustment has been exacerbated by the weather, and recent predictions of another poor monsoon are adding to farmers’ woes. “Two bad monsoons can wipe out five or six years of very high wage growth, high consumption and high asset accumulation by farmers,” says Mr Aziz.

Farmers’ declining fortunes are already rippling through the economy. Domestic tractor sales by Mahindra & Mahindra fell some 37 per cent year-on-year in the January to March quarter and were down 13 per cent year on year in April. Fast-moving consumers goods firms are also prepared for softening demand.

India Ratings, the local arm of the credit rating agency Fitch, has warned that the crop damage caused by the unusual weather will increase non-performing loans on the books of the already stressed-banks, especially state-owned banks.

Shankar Singh, a farmer in Laudhauli village, has seen the personal toll that crop failure takes. His 42-year-old nephew, Mahipal, suffered a fatal heart attack minutes after seeing how April’s hail destroyed his wheat crop. Yet just a few weeks on, Mahipal’s two sons — who have no income other than the Rs2,500 per month one earns as a rural school bus driver — are already looking to the next planting season.

“We have no choice but to carry on,” says Mr Singh. “The land here is very fertile but the vagaries of nature — how do you deal with that?”

Educated youth remain jobless

Anup Kumar, 20, whose father and grandfather were farmers in Western Uttar Pradesh, spent three-years studying civil engineering at a local government college in Barsana, which he hoped would open the door to a different life.

But his efforts to find work with real estate developers and builders in the town of Mathura yielded nothing. A year after his graduation, Mr Kumar is back on the family farm, though he still hopes for an escape. “They told me the real estate sector is in bad shape, but hopefully it will pick up and I’ll find a job,” he says.

In recent years, millions of young rural people like Mr Kumar have worked their way through India’s education system, hoping it would help them escape the toil and vagaries of agriculture. But when they hit the job market many have come up empty-handed and been forced to return to their villages.

The failure of these youths, armed with different degrees, to be absorbed into India’s urban economy has significant repercussions for the country’s raging debate over land acquisition.

While Mr Modi’s government is pushing for legal changes to make it easier for authorities to take agricultural land for industry and urbanisation, many farmers, who have seen the failure of their educated offspring to find non-farming jobs, are determined to cling to their land as their only source of security.