Published: June 1 2007 13:25 | Last updated: June 1 2007 13:25
When tortilla prices in Mexico double because of corn shortages and the Chinese government declares a national pork crisis because of feed costs, it is clear that agriculture prices are something to watch for investors in commodities.
The so-called “soft commodity” market in agriculture stocks such as corn came under the spotlight last week in the UK as retail food prices headed for their largest annual increase in 30 years, partly because of the costs of farmed foods.
“Soft commodities have been neglected but are now going through more than a bull run – there is a complete structural shift in supply and demand,” says Roland Kitson, sales and marketing director at Close Fund Management, which this week opened a new commodities fund to retail investors.
The Close Enhanced Commodities Fund II is a Guernsey-domiciled, London-listed company that will focus on soft commodities such as sugar, corn and wheat, alongside “harder” commodities such as metals and oil to provide an element of hedging.
The fund manager launched a similar product focused purely on hard commodities two years ago but saw the need to change the mix with the new launch.
“Investors are looking at ways of accessing soft commodities,” Kitson adds. “There is a huge demand for these sorts of assets in investors’ portfolios.”
Close offers one of only a handful of ways investors can access the soft commodity market. The main alternative is the £300m Schroders Alternative Solutions Agricultural Fund, which launched in October last year.
Schroders is also now pushing to market the fund. It tracks 42 commodities, but is focused on grains such as corn and wheat as well as oil seeds. The fund, which is 92 per cent invested in commodities futures, has yielded a return of around 8.15 per cent since its launch.
“We’re extremely bullish on grains and oil seeds,” says Schroders fund manager Rodolphe Roche. “This is where we have taken the bulk of our position. There is very strong long-term demand for these grains in key markets around the world and investors want the chance to access them.”
Rowan & Company Capital Management is planning to introduce a new basket of alternative investments for its clients in the next few months. For the first time, this is likely to include a significant element of soft commodities coverage based on the Schroders fund.
Tim Co/ckerill, Rowan’s head of research, says investors are looking for an asset class that is not linked to the steamy equities and bonds markets.
“Soft commodities are among the only areas of investment where there is no correlation with the wider markets, making it a valuable diversification for investors,” he says.
The reasons behind forecast price rises in soft commodities fall broadly into two related categories: the new environmental fuel uses of grains such as corn; and the future imbalance between supply and demand of food.
Noam Chomsky, the renowned linguist and political commentator, recently pointed out that this year’s Mexican tortilla crisis – when soaring corn prices meant locals could no longer afford to buy their staple food – was partly because of what he called the “ethanol effect”, a reaction to US demand for corn-based ethanol to replace petrol.
Close’s Kitson agrees that biofuel demand will become a major driver behind prices of corn and alternative energy sources such as soyabeans. He says 5.2bn gallons of ethanol are produced every year in the US, and this is forecast to grow to 45bn gallons by 2009.
This, Kitson says, represents 136 per cent of current US corn production, which can only lead to price pressure, while land shifted towards its production means other foods and sources of oil such as soyabeans and palm seeds may also see supply constrained.
Research from Baring Asset Management in March also highlighted the competition between people and combustion engines for the same resource. It concluded that the primary driver of price rises in soft commodities would remain the age-old problem of too many mouths to feed with too little food. Global grain production is forecast to grow 6.2 per cent to 1.66bn tonnes in 2007-08, according to the International Grains Council, but this still does not cover the global consumption forecast of 1.68bn tonnes.
Exacerbating the problem has been the rise of the middle classes in developing countries across Asia and South America demanding more sophisticated foods and meat.
The Baring research showed the average person in China and Taiwan consumed 2,500 calories a day, but in Taiwan this includes nine times more animal protein. Growth in beef and chicken consumption is more than 20 per cent every year in China. “For every 1 gram of beef produced it takes 8.3 grams of grain,” says Jeff Currie, Goldman Sachs global head of commodity research. “The rising demands for feed from emerging markets will be a major driver in future.”
Goldman Sachs predicts corn prices will rise from 364 cents per bushel in the first quarter of the year to 500 cents in the next five years. Currie says corn is a “near-term investment story”, and predicts that soyabeans will follow in its wake as their use in energy and food production become realised.
“So far, corn production has been expanded by increasing yields and crop rotattion. Now people have to increase acreage to grow more. This will be a lot more expensive. It is a structural story every bit like metals and energy, not a transient spike.”
