IF THERE is one investment theme that is likely to gather pace in the coming years it is food. A growing population will require more of it than ever. This is good news for agricultural products, which also proved resilient during the recent bout of market volatility; for example, the Dow Jones Industrial index dropped 7 per cent in May, whereas wheat and corn prices remained flat and soybeans only lost 2 per cent.
Global supply and demand fundamentals are also expected to be fairly tight this year. Grain stocks are unlikely to increase much beyond this year’s levels, while consumption of grains is set to continue expanding. Analysts at Societe Generale expect grain consumption to increase significantly – by 40m tonnes – partly due to increased demand from China.
Corn prices, in particular, were also given a boost by the US Department of Agriculture’s corn report for June. It forecast a lower crop – 11.7bn, down 390m bushels from its May forecast – due to heavy rainfall across the US corn belt. Ethanol, which is produced using corn, is also a major factor for corn prices. Ole Hansen, futures specialist at Saxo Bank, points out that the US government is planning on increasing the proportion of ethanol that is blended with gasoline to 12 per cent – currently it is 10 per cent – pushing corn prices higher.
Soybeans is another grain to watch out for. John Person, president of National Futures.com, a trading advisory service, notes that typically soybeans tend to come under downward pressure in the summer and autumn months as farmers sell futures to hedge their profits. But this year could be different. Soybean meal, made from soybeans, along with fishmeal, are important components of animal feed. However, the oil spill in the Gulf of Mexico has jeopardised fishing, which could reduce fishmeal stocks and lead to more demand for soybean meal.
Analysts at SEB bank say that there is limited downside risk to agriculture prices because the asset class has lagged behind other commodity indices (see chart on right). Soc Gen notes that current prices are close to breakeven and there is now little room for any further falls in price, other than for temporary decreases, since farmers will respond to low prices by planting less, thereby pushing up prices in the future.
So how should investors trade agricultural products? They should consider futures, says Person. Not only can they be traded 24 hours a day, but trading is also on a regulated exchange, and pricing is transparent. Person recommends a long position in the November contract for soybeans, to benefit from any upward pressure on price caused by the disruption to fishing in the Gulf. He also suggests that investors consider using mini-futures contracts, which are one-fifth the size of the whole contract, and are the equivalent of 1,000 bushels. This will reduce investors’ leverage, and therefore their risk, which might be preferable to retail investors or people without experience of the futures markets. They also require a lower margin requirement that you need to deposit with the exchange. Saxo Bank’s Hansen is also attracted to the December 2010 corn contract, due to upward pressure on corn demand in the near to medium term.
The world will always need more food, and trading agricultural futures is one way to get exposure to this mega macro-economic trend.
John Person will be appearing at the Futures Symposium 2010, 25-26 June, register online at tradeStation.com/CityAM