- Food is a delicate subject as it is a matter of life and death.
- Food prices are influenced by weather conditions which work in 2-5 year cycles, but the market only looks at short term supply and demand balances.
- By investing in food when prices are low and selling when prices are high, you do good by bringing balance to the food market which is essential for eliminating hunger and creating a sustainable global food ecosystem.
Today we’re discussing a delicate topic: food and investing in it.
Some of you probably still remember the scandals around trading food commodities amid the 2013 food shortage. Higher food prices attracted many investors into agricultural funds which increased banks’ exposure to food commodities and consequently pushed prices up. Higher food prices unfortunately results in hunger and death in many places in the world. On the other hand, low food prices limit investments in agriculture and compromise future crops which will again bring about food shortages.
As we currently aren’t anywhere close to a food shortage, it’s a good opportunity to discuss food from an investing point of view.
Current Food Situation
There is currently an abundance of food globally which creates confidence—similar to the confidence in the economy and stock markets—of a permanent oversupply of food and low prices.
A look at how volatile food prices have been will show us that unfortunately, food prices are not as stable as we might think. At the beginning of this decade, and prior to the Great Recession, food prices were unusually high.
Figure 1: Food price index. Source: Food and Agriculture Organization of the United Nations (FAO).
Even if things seem fine at the moment, the fact that food prices were 40% higher 5 years ago shows us what can happen as food prices fall under one major influence. That influence isn’t the FED, ECB, or politicians, but Mother Nature and she is impossible to predict. A spring frost can cut crop yields by more than half while too much rain can disable farmers from applying the necessary treatment to crops, and these are just a few examples of what can affect farmers and their crops.
We are enjoying a prolonged period of moderate weather conditions globally, which suits farming and increases yields. This period is an instance of El Niño—Spanish for “the boy,” a term coined by local fishermen which originally applied to a weak warm ocean current occurring around Christmas time in Peru and Ecuador which has since evolved to describe periods of warming to above-average temperatures in the central and eastern tropical Pacific Ocean—while La Niña on the other hand, Spanish for “the girl,” brings cold weather. El Niños and La Niñas occur semi-regularly at intervals of 2-5 years, and usually last from 9 to 12 months. Those swings are shown by the Oceanic Niño Index.
Figure 2: Oceanic Niño Index. Source: Golden Gate Weather Services.
Both conditions result in varying temperature and rainfall patterns around the world. Usually El Niño is beneficial to U.S. agriculture as its occurrence is strongly positively correlated with corn and soybean crop yields. La Niña usually does the opposite as it brings severe drought to many parts of the world.
Figure 3: El Niño and La Niña effect on the U.S. Source: Agro Climate.
As markets are mostly focused on short term supply and demand, the upcoming and potentially strong effect of La Niña in the next year or two doesn’t seem to be a worrying factor for many people, but it is almost a certainty and will affect food prices globally.
Before moving to prices and investments, there are plenty of other issues, apart from weather, that affect the agricultural sector.
Hans Johr, the corporate head of agriculture for Nestle, wrote a paper in 2012 that asked “Where are the Future Farmers to Grow Our Food?” The average age of farmers in the US in 2012 was 58 years old, and 67 years old in Japan, while one third of the farmers in Europe were older than 65 and technically retired. With food prices falling, this situation probably hasn’t gotten any better since the report was published.
Another factor for food that can’t be avoided is global demand which is bound to continually increase as global population grows and economic development increases food consumption, especially meat. When you put the limits of arable land growth on top of more consumption and weather influences, we are well positioned for a volatile future for food prices.
Figure 4: Population growth and arable land. Source: FAO.
Markets & Investments
With food prices surging in 2008 and 2012, a new asset class was developed to increase investment opportunities on financial markets. The number of derivatives for other commodities (non-gold and other precious metals) surged in 2008 and in 2012, and created a distorted food market.
Figure 5: Amount of outstanding over-the-counter other commodity derivatives. Source: Oxfam.
As soon as speculators and traders enter a market, prices surge, which isn’t good for the global food demand and supply balance.
As current food prices are low due to a mild weather and high crop yields, now is the time to find food related investments that are profitable in order to give you a nice yield while you wait for Mother Nature and the weather to change direction.
The long term trend is clear: demand for food will increase and so will demand for all related products, fertilizers, machinery, arable land, etc. In the short term, there will be many cycles from various weather issues that will create investing opportunities.
Thankfully, you don’t have to consider yourself unethical when you invest at the bottom of the food cycle and sell at the top because you are then the force that stabilizes the market by buying low and selling high. By investing in food now you’re helping to stabilize the cycle by keeping prices at a level that encourages farmers to invest in crops, machinery, land, technology, etc., which over time increases crop yields per unit of input creating constant downward pressure on prices such that food prices are kept low enough that consumers are kept happy.
Markets are cyclical and are supposed to have high and low swings, but more often than not speculation pushes normal cyclical trends into extremes which is more socially accepted when it concerns diamond prices, but not when it concerns food prices.