Commodities | Apr 27 2006
by Chris Shaw (Tokyo)
Gold and precious metals are soaring, oil is above US$70 per barrel and base metals are continuing to climb, so where is the value left in the commodities suite?
Agricultural commodities are the answer in the view of Stephan Wrobel, CEO of Diapason Commodities Management, as they remain at rock bottom prices in real terms and especially when compared to energy prices.
Wrobel was part of a panel discussion at the Commodity Investment World Conference in Tokyo yesterday, the discussion focusing on the outlook for agricultural commodities and concluding the sector offers significant long-term upside.
Joining Wrobel on the panel was Roland Jansen, the CEO of Mother Earth Investments in Switzerland, who began the discussion by showing how history is in the process of repeating itself. He was referring to ethanol and its growing attraction as an alternative fuel source, pointing out the original Model T Ford actually ran on an engine using ethanol for fuel, while also noting the original diesel motor engine ran on peanut oil.
Jansen was making the point the agricultural complex is the next opportunity in commodity markets not only because of the need for alternative fuels but also because the ongoing population growth in Asia, which is forecast to represent 40% of the world’s total population by 2020, will drive demand for agricultural commodities.
Michael Coleman, managing director of Aisling Analytics in Singapore, agreed, suggesting prices for agricultural commodities should move higher in coming years as the demand from those requiring energy will compete with the demand from those requiring food.
He suggested such a process has already begun, noting 20% of the US corn crop goes into the production of bio-fuels. At the same time, Wrobel points out while populations are increasing and demanding more food, soil and land erosion are also increasing, which reduces the amount of land available for producing the food needed. This leads to upward pressure on prices as the scarcity of the commodity increases.
Coleman also expects food prices will move higher over time as the increased competition for the commodities from the food and energy sectors will act to create higher floor prices for underlying commodities. This has begun in the sugar market where prices have risen in the past couple of years thanks to the additional demand from ethanol production, Coleman expecting similar outcomes in markets such as grape seed oil in coming years.
Wrobel pointed out the upward pressure on prices will return some pricing power to producers, which has been absent from the market for some time. Such pricing power won’t necessarily result in higher production though, as he noted the currencies of raw material producers should rise as the price of the materials they produce rises. This means unless the commodity price increases faster than the currency there is actually little incentive to lift production levels.
One important point made during the discussion was the role of water in the future of the agricultural sector. As Wrobel noted, agriculture consumes 70% of the world’s water, so countries short on water will become importers of agricultural products in the future. While Australia should take note Wrobel offered China as a more immediate example, as over the past two years its inventories of wheat and corn have fallen significantly as production has not kept pace with needs.
The panel did emphasise one current problem with investing in the angricultural commodities, this being the cost of carrying the trade until prices respond as expected. The cost comes from futures prices being higher than prices for current contracts, which means if prices don’t increase over the life of an existing contract then rolling over the investment into a new contract becomes expensive. Wrobel took the view this carry cost may still be worth paying, given the longer-term potential for agricultural commodity prices to move higher.