Jubak's Journal4/8/2008 12:01 AM ET
Food-crunch 'fix' won't work
The answer to the world's food-supply squeeze isn't to ban or curtail exports (though that's being tried). The short-term solution lies in seed and fertilizer. Investors, take note.
By Jim Jubak
Starve thy neighbor.
It leaves something to be desired as moral advice. It's pretty bad economics, too.
The recent decisions by Argentina, Russia, Vietnam and others to limit exports of wheat, rice and other grains won't stop runaway food inflation in those countries. It will, in fact, prolong today's global food-supply crunch. Speculators, however, are cheering because the less grain there is on world markets, the more hoarding and panic buying will drive prices higher.
The only long-run solution to the global shortage of grain and other foods is to increase supply. That's going to take lots and lots of fertilizers and other agricultural chemicals and new varieties of higher-yielding seed. Investors can count on an additional decade of good times for stocks such as fertilizer maker Potash of Saskatchewan (POT, news, msgs) and herbicide and seed giant Monsanto (MON, news, msgs).
If investors are very lucky, the current bear market might even deliver a sell-off in these shares that would provide a good entry point. But, unfortunately, share-price action of the past few months suggests that's unlikely.
Inflation by the slice
The likelihood that starve-thy-neighbor policies are going to drive up the price of grains and other foodstuffs isn't exactly good news, coming on top of stunning increases in grain prices.
On April 3, corn for May delivery closed at $6 a bushel; a year earlier, May corn closed at $3.46. That's a jump of 73%. In the same period, the price of a contract for soybeans for May delivery climbed to $12.57 a bushel from $7.63, an increase of 65%, and wheat soared to $9.35 a bushel from $4.20, a 123% gain.
No wonder my neighborhood pizza guy has raised his price for a plain cheese slice twice in the past two months by a total of 50% -- or that a baguette at my local bakery goes for 16% more than it did a month ago. Come to think of it, looking at the jump in prices on the commodities market, it's amazing that a slice costs only 50% more.
But while a jump in price like that is painful to me, food inflation is literally life and death for hundreds of millions in the world's developing countries. In February, food prices in China were up 23% from February 2007. In a year, the price of pork climbed 63%, vegetables 46% and cooking oil 41%.
That's a huge hit to the budgets of the 300 million Chinese who, according to the World Bank, live in poverty. For these families, food makes up 50% of the household budget. In contrast, the average U.S. family spends a little less than 10% of its household budget on food.
China isn't the only country experiencing runaway food inflation. India, Argentina, Egypt, Vietnam, the Philippines, Mexico, Cambodia and others are caught up in a global trend. With incomes rising in much of the developing world, and with biofuels such as ethanol eating into grain supplies in the developed world, global grain production isn't keeping up with demand. And that's pushing up the prices of everything from soybeans to chicken, pork and beef.
The grain-price elevator
The first response by many of these countries has been to slap on export controls. On March 28, for example, Vietnam, the world's second-largest rice exporter after Thailand, cut rice exports by 22%. (China is the world's largest rice producer, but it keeps most of its production at home.)
Inflation hit 16.4% in Vietnam in the first quarter of this year, and food prices soared 21.5%. On the same day, India set a new minimum price of $1,000 a ton for its rice exports, well above the global price of $700 to $750 a ton for most grades of rice. That ensures very little rice will be exported from India. Cambodia has halted rice exports. Egypt's ban went into effect on April 1.
Same story in other grains. Within the past year, Ukraine, Russia, Kazakhstan and Argentina have all at times restricted wheat exports. (The American Bakers Association has urged Congress to restrict U.S. exports.)
At the same time, many of these countries have lowered or done away with tariffs on imported grain in an effort to attract more of the world's limited supply. India, for example, eliminated its tariffs on edible oil on March 31, and Saudi Arabia has jettisoned its 25% import tax on wheat.
Of course, with so many countries reducing what they export, there isn't much grain out there in world markets for these lower tariffs to entice into hungry markets.
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Jubak: Trouble in the bond market?
Bill Gross, Mr. Bond Market, recently called U.S. Treasurys the most overvalued securities on the market. Why? The 10-year bond is paying just 3.6%, while inflation is at 4% annually. The negative real yield makes sense only if inflation comes down fast.
The export restrictions have made thin markets thinner by reducing global supplies, and that has increased the power of speculators to move these markets. Even before the latest export restrictions from Vietnam and India, the global rice trade had just about come to a stop because there simply wasn't much rice for sale.
What was for sale was often controlled by speculators who wanted to hold on until they saw how high prices would go. Government efforts intended to reduce grain prices instead keep them climbing.
Soaring subsidies
But the governments of these countries are desperate to be seen as doing something. Keeping food prices relatively low is a matter of political survival. That's why governments from Egypt to China to Indonesia to Venezuela subsidize the cost of food. As food prices have soared, the cost of these subsidies has climbed, too.
India spent $600 million on rice and wheat subsidies in fiscal 2005. Projections for fiscal 2009, which started last month, see spending climbing to the neighborhood of $2 billion. The Philippines will spend about $520 million subsidizing rice prices this year, the Asian Development Bank projects. In Indonesia, this year's food subsidies are likely to climb to $2.2 billion.
Continued: Subsidies share blame for crisis
These subsidies helped produce the current crisis. Governments kept food prices artificially low in order to buy political stability, but those low prices discouraged farmers in these countries from expanding production. At the same time, the cost of these subsidies was so great that it soaked up much of the money that these governments might have otherwise invested in agriculture. In Indonesia, for example, about 40% of the government's spending on agriculture went to subsidies.
Not that these governments felt an urgent need to invest in expanding agricultural production. The Green Revolution of the 1960s and 1970s, which employed improved varieties of seed and an increase in the application of agricultural chemicals to increase food production, had made countries such as India self-sufficient in grain production. Many of these developing economies used that agricultural success as a springboard to rapid industrial development, and attracting new manufacturing industries became the goal of economic-development plans. Agriculture was neglected.
You can see the results in a slowdown in the growth of agricultural productivity. In the Asian and Pacific regions, labor productivity on farms grew by an annual 2.5% in the 1980s and 2.2% in the 1990s, according to the United Nations. From 2000 to 2002, the growth rate dropped to 1%.
The current crisis is slowly refocusing developing countries' governments on the need to increase agricultural productivity again. There's nothing like having to pay $700 a ton for rice, as the Philippine government has had to do recently to meet domestic demand, to focus the mind. The government has said investments in the rice-farming sector will enable the country to increase rice production by 7% in 2008.
Quick fixes, long-term headaches
In the short run, these countries know what to do -- and that what they have to do isn't all that difficult. They have to increase the amount of credit available to farmers so they can buy more fertilizer, better seeds and better equipment. In its March 2008 budget, for example, India's government promised to "forgive" $15 billion in loans taken out by small farmers. The United Nations projects that measures already under way will raise global rice production by about 2% in 2008.
So in the short run -- we're talking about a decade or so -- the world will need more and more fertilizer. Investors should make sure they own shares of Potash, Mosaic (MOS, news, msgs), CF Industries Holdings (CF, news, msgs), Agrium (AGU, news, msgs), Terra Industries (TRA, news, msgs) and its majority-owned limited partnership Terra Nitrogen (TNH, news, msgs), and Yara International (YARIY, news, msgs). Soybean processing giant Bunge (BG, news, msgs) also has a substantial fertilizer business in South America.
In the longer run, the challenge is much tougher because the limits of current agricultural technology are already in sight. China, for example, uses about three times as much fertilizer per acre as the global average. Applying more to Chinese farms won't produce bigger crops but merely add to the country's appalling water pollution. The rest of the developed world can increase fertilizer use toward Chinese levels, of course, but this isn't a permanent solution for a world where God isn't making more farmland and yet men and women continue to make new mouths to feed, creating a demand for more and better food.
* Counterpoint: Beware the next bubble
It just buys time for a long-run solution that will require a new green revolution. The technology for that -- improved conventional plant breeding and new genetic techniques that enable scientists to insert desirable traits into plants -- is already at work at companies such as Monsanto, Syngenta (SYT, news, msgs) and DuPont (DD, news, msgs). Recent announcements from Monsanto and DuPont put higher-yielding seeds for critical crops such as soybeans on the market in 2012 -- if everything works as projected. Getting these new varieties into global production wouldn't happen overnight, of course.
For make no mistake, some of what comes out of the labs at a Monsanto or a DuPont is and will be controversial. The European Union, for example, has taken a strict stance against genetically modified organisms, and there's no telling where other governments will come down on seeds that don't yet exist outside the lab in the midst of a food crisis that is still unfolding.
And there's a good possibility that the current system of industrial agriculture as practiced in the developed world isn't sustainable as oil prices climb and oil supplies dwindle. It takes about 4,600 calories of fossil fuel to grow, chill, wash, package and ship a 1-pound box of salad greens -- about 80 calories of food -- from California to New York, for example. Asking how long that can go on is a legitimate question.
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Jubak: Trouble in the bond market?
Bill Gross, Mr. Bond Market, recently called U.S. Treasurys the most overvalued securities on the market. Why? The 10-year bond is paying just 3.6%, while inflation is at 4% annually. The negative real yield makes sense only if inflation comes down fast.
For more on the energy costs of industrial agriculture, see Michael Pollan's book "The Omnivore's Dilemma." For information on the heavy-handed way that Monsanto uses the legal system to intimidate farmers to enforce its intellectual-property rights, see "Monsanto's Harvest of Fear" by Donald L. Barlett and James B. Steele in the May 2008 issue of Vanity Fair. (As always in Jubak's Journal, I assume that investors are adults able to decide the ethics of putting money into a specific stock or company on their own.)
Seed money
Maybe an agriculture based on chemical fertilizers and genetic manipulation of plants isn't a long-term solution either. Maybe all it will do is buy time to find a better solution a decade or more from now. Fair enough. A decade's worth of gains is enough for most investors, I'd guess.
From a purely investing angle, the problem with these stocks is that they haven't dipped with the rest of the market. In fact, they've been the strongest group during the pullback from the October 2007 highs. That either makes them a great investment -- they'll go up if the rest of the market retreats again -- or a risky bet in the short term, because if this market does experience another major down leg before bottoming, they might be among those stocks that investors sell off most strongly.
I have spent the past three months looking for a break in these stocks, a dip no matter how short-lived, to use as a buying opportunity. I saw a brief one last week in Monsanto when the stock sold off for two days after the company announced spectacularly good earnings. I guess some investors decided to sell because the best news was out there. But the dip didn't last long. Apparently there were plenty of investors just waiting, like me, to buy on any weakness, and the stock bounced back before I could get this column posted.
I'm going to keep waiting because I believe that the current rally is a temporary interruption in a longer downtrend in the broader market. If you see Monsanto drop $7 in a day again, though, you might want to pick up some shares.
I'll forgive you if you don't wait for me.
Continued: Developments on a past column
Developments on a past column
"Make money off China's nightmare": The first trainload of iron ore has rolled out of Fortescue Metals Group's (FSUMF, news, msgs) Pilbara mine and has been unloaded into stockpiles at the company's Herb Elliott Port in Western Australia.
Shares of the iron-ore upstart would have rallied more on the news except for the turmoil in the Australian financial markets set off by the failure of Australian brokerage Opes Prime. The liquidation of bank loans to Opes Prime and margin calls have resulted in heavy selling pressure on shares of some Australian companies.
Fortescue Chairman Herb Elliott and Executive Director of Operations Graeme Rowley sold 3.3 million shares that they had used as collateral for margin loans at brokerage Opes Prime. No other Fortescue officers or directors, including founder and CEO Andrew Forrest, hold shares through the brokerage, according to Bloomberg.
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Editor's note: Jim Jubak, the Web's most-read investing writer, posts a new Jubak's Journal every Tuesday and Friday. Please note that recommendations in Jubak's Picks are for a 12- to 18-month time horizon. For suggestions to help navigate the treacherous interest-rate environment, see Jubak's portfolio of Dividend Stocks for Income Investors. For picks with a truly long-term perspective, see Jubak's 50 Best Stocks in the World or Future Fantastic 50 Portfolio. E-mail Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak owned or controlled shares in the following equities mentioned in this column: Fortescue Metals and Yara International. |
