FEED Business Worldwide - April, 2011
Retreat, plateau & rebound: Loose money, tight supplies & Japan's earthquake
by Eric J. BROOKS
The analogy may seem indelicate but when it comes to the impact of Japan's disaster on grain prices, the tide went in and now it is going out again. In the Japanese earthquake, tsunami and nuclear crisis aftermath, corn and soy plunged, stabilized and are now rebounding strongly. Going forward, this catastrophe is putting into play a multitude of adjustments that collectively, may extend the price rally further than was initially anticipated.
Corn, wheat, soy & rapeseed remain tight
Before analyzing present circumstances, it is good to take stock of grain market circumstances that were in effect just prior to the crisis. As can be seen in the accompanying charts, both corn and soy had peaked well in advance of mid-March's earthquake.
CBOT Soy peaked earlier, touching the US$14.50/bushel zone in early February before falling to near US$13/bushel late in the month. Early March saw soy price revive to around US$14/bushel as the severity of South America's drought became apparent.
Soy's price is also boosted by late February and early March's frost damage to German and Polish rapeseed crops. They are the EU's largest rapeseed producers and the rapeseed supply reduction follows a bad 2010 crop and booming biodiesel demand. This means that going forward, not only are soy supplies limited until the fourth quarter but there's less scope than usual for substitution with rapeseed.
Such fundamentals not withstanding, Japan's earthquake hammered CBOT soy to near US$12.70/bushel in a matter of days. Yet, soy was again approaching US$14/bushel at the time of this writing. That's partly because South America first suffered a crop-withering drought. Now, ten straight days of rain at harvest time is degrading Brazil's export forecast. Nevertheless, there are also deeper, non-grain market forces at work too.
CBOT Corn traced a similar path but for different reasons and later timing. The ease of substituting wheat for corn broke down after the disastrous Russian harvest and still remains difficult. With supply fundamentals clearly tighter than soy's, it broke the US$7/bushel barrier after February's USDA WASDE report showed US inventories plunging to 17.1 million tonnes and paltry stocks-to-use ratio of about 5%.
China adds to price pressure
International corn prices were also boosted by events in China, where the government temporarily blocked deep processors from entering the domestic market while it made state purchases to restock depleted national reserves. Beijing's policymakers had hoped that buy restocking right after Chinese New Year, the seasonally low feed demand at this time would make their purchases have minimal market impact.
Things however, did not occur according to their best laid plans. According to eFeedLink's March corn market report, "The market saw a sharp growth after the Chinese New Year holiday amid bullish sentiment. This occurred despite the government restricting medium- and large-sized processors from buying in the market.â€
With sugar prices high, when processors were allowed back into the market, "High processing margins in the northeastern region spurred demand for industrial corn, prompting buyers to hike prices in order to secure supplies. In the south, port stockpiles had been steadily declining and these two factors pushed prices higher.â€
Hence, while early March saw CBOT corn around US$7.40/bushel, this was partly due to Dalian corn futures at RMB2,400/tonne (US$9.22/bushel), and the belief that pressure for China to import corn was building up.
But scarcity causes volatility to increase in both directions â€“that's because a bull market's logic might be linear but the price path never is. Tight supplies not withstanding, corn first softened when the March USDA WASDE report kept US corn inventories constant (albeit, at a very low level). Within a few days, the Japanese earthquake had brought some speculators to their knees, with corn trading as low as US$6.16/bushel - down by 17% in less than 10 days.
No repeat of 2008 crash, for now
Feed grains briefly appeared ready to stay at this level, or even go lower but that was not to be. For several reasons, based on both feed and financials, there will be no repeat of the 2008 grain price crash â€“at least not for another two more quarters.
First, in 2008, a year of low crop inventories was followed by bumper crops and a recession induced cuts in feed demand. Japan aside, western feed demand is stable and other Asian economies are transitioning from economic recovery to inflationary boom, with no demand growth let up in sight.
According to Barclays Capital, "Amid the tumultuous and downward shift in prices, it would be easy to lose sight of the strong fundamental underpinning of the rally in agricultural markets which, in our view, remains intact." Higher demand for corn, soy and other feed materials in countries such as China, Vietnam, Indonesia and Thailand easily outweigh any resulting reduction in Japanese feed demand.
Second, mid 2008 saw a catastrophic fall in the US money supply. It foreshadowed both a deep financial crisis and the disruption of normal grain market liquidity. Not only is there no such monetary crisis on the horizon, Japan's earthquake has resulted in the opposite situation.
Before the crisis, there was speculation that America would soon end Quantitative Easing II, which would have deflated grain rallies by pulling money out of traders' hands. However, Japan's central bank was forced to print up hundreds of billions of dollars to stabilize markets in the days following the earthquake.
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