Cash & Investment Management

Global Agriculture & Agribusiness Update – Q3 2016

Friday 23rd September 2016

Year-to-date price movements (in USD terms)

Commodity Return % Comments
Soybeans 14 Despite record production, prices continue to rise, with demand being driven by changing dietary habits in China and other developing countries (increasing pork consumption requires animal feed imports).
Corn -10 Production outlook higher than initial estimates on better crop yield. Has fared better than wheat due to steady growth in corn ethanol use.
Wheat -20 Generally record crop yields globally. Price at a decade low (below the cost of production in some cases).
Cotton 9 Tighter stocks globally, however, price rises have been kept in check by inventory drawdown (especially in China). India will be a significant importer this year due to pest and drought issues.
Coffee 21 Long drought in Brazil has affected supplies (large harvests in other countries partially offset this). Coffee production seen as very susceptible to climate change. Global consumption continues to grow.
Sugar 27 Price at a 4-year high. Expected global supply shortage in 2016/2017 has reduced existing inventories. Currency effects have also contributed to higher prices (Brazilian Real vs. US Dollar especially).

As at 08/09/16

According to the UN’s Food and Agriculture price index, general food prices rose to their highest level in 15 months in August, recording a jump of around 7% in the August to August period. After a long period of falling food prices on the back of favourable weather conditions and subsequently large inventories, food prices appear to have bottomed out, with dairy, vegetable oils and sugar leading prices upwards. 

So far, 2016 has seen some very disparate returns in the soft commodity space. After enjoying strong rises throughout April and May, grain prices fell sharply in June as markets reacted to a slew of fresh data. Whilst soybeans managed to retain some of their gains, primarily on the back of robust Chinese demand, corn and wheat prices were driven down to multi-year lows after reports of good weather and record harvests began to materialise, especially in the US and Eastern Europe. The over-supply in these particular markets is expected to last into 2017 and is forecast to put significant pressure on farmers, especially with prices falling below the cost of production in some regions/countries. The resilience of the corn price relative to wheat has been largely due to continued growth of corn ethanol usage. Whilst this ignites the ‘food vs. fuel’ debate in periods of rising corn prices, it has added a stable source of demand, helping to dampen some of the volatility associated with this particular commodity. Despite this, corn and wheat prices do tend to be fairly correlated as they share a number of interchangeable uses: feed stock for cattle for example, whereby the cheapest option will be used.

Other soft commodities have seen strong gains this year as production fails to keep pace with demand. As well as unanticipated weather-related supply disruption, some soft commodities are benefitting from changing dietary habits and consumer tastes in the emerging markets (China’s growing taste for pork is creating robust demand for soybeans for pig feed for one). Also, global demand for coffee is expected to hit a record this year as people all over the world consume more of the beverage, leading to higher prices for coffee beans.   

Agribusiness ‘mega-mergers’

 

Years of falling crop prices, reduced investment in seeds and crop protection by farmers and cheap access to finance have combined to create an environment in which companies seek industry consolidation in order to create cost synergies and to cover gaps in their product range, as the industry moves towards a holistic approach, offering everything from disease-resistant seeds to advanced pesticides. The most recent round of mega-mergers in the seeds and crop protection sector was kick-started by a ‘merger-of-equals’ between Dow Chemical and DuPont. The combined company DowDupont is planning to split into three independent, publicly traded companies, one of which will be a pure-play agriculture company. Providing the deal goes ahead without antitrust issues and subsequent forced divestitures, the new company would generate annual revenues of around $18bn and become a very big player in the industry.

Subsequent to this deal, the next target was Syngenta, attracting an opportunistic bid from Monsanto in a deal that looked to transform the industry. After a number of sweetened offers failed to weaken Syngenta’s resistance, a friendly counter-offer was put forward by ChemChina in a deal that would rank as the largest ever foreign acquisition for a Chinese company. This deal is not without its hurdles, since part of the funding is being put forward by Chinese state-owned entities, triggering possible investigations by governments on national security grounds. This turn of events resulted in Monsanto looking vulnerable to a takeover itself, which duly came from Bayer. The combined company would be the largest agribusiness firm in the world with approximately a quarter of global seed and pesticide sales.  Consequently, what was once the ‘big six’ industry players will become a ‘big four’ if all the deals go through largely unimpeded.

Elsewhere, two of the largest fertiliser companies, Agrium and Potash Corp, have announced their intentions to merge. The deal would join the world’s largest potash producer with the world’s largest agricultural retailer. This potential shrinking of competitors is causing concern for industry stakeholders, especially farmers, who fear a reduction in choice in what is an already concentrated market, dominated by a few large companies, and could ultimately drive up food prices for consumers. For example, Monsanto, Syngenta, Bayer, DuPont, Dow Chemical and BASF, between them, control around two thirds of the global seed market.

Outlook

Despite the bifurcated nature of the soft commodity market so far this year, a diversified exposure to this asset class has produced an attractive return. Looking forward, if one were to expect a rising interest rate environment in the not-too-distant future, then agricultural commodities may well continue to be an attractive asset class, given that historical returns in periods of rising interest rates have tended to be strongly positive.