Friday, April 10, 2009

Are we setting for another commodity bubble?

Since the commodity bubble burst in the summer of 2008, many agricultural futures prices plunged for almost 50%. Even though consumers might find some agricultural products such as corn and wheat became cheaper, many consumers might not sense the worse will come in the year ahead.

According to the USDA’s planting survey released on March 31, 2009, it showed that many U.S. farmers plan to cut back on planting. Corn production is reduced from 86 million acres in 2008 to 84.7 million acres in 2009. However, only the soybeans production has increased slightly from 75.7 million acres in 2009 to 79.1 million acres in 2009. However, the actual planting may change due to weather during the planting season and agricultural products’ futures prices movement. Therefore, we should pay attention to the upcoming Acreage report released by USDA at the end of June, which shows how many acreage did the farmers actually planted.

When commodity prices fell in the second half of 2009, U.S. farmers responded by cutting back their planting and production. In March 2009, the agricultural Department said that farmers will idle millions of acres of land as they cut production of corn, wheat, and soybean. However, as the consumption of corn and soybeans are still high in developing countries such as China, this planting reduction will increase the volatility in crops prices in the coming year in from packaged food and biofuels to feeding livestocks.

Furthermore, farmers moved away from high-cost crops such as corn in exchange of soybeans which don’t require expensive nitrogen fertilizer, but cheaper phosphate and potash. They are reducing production because of increasing costs of fertilizer and seed, and the slowing demand of crops in some countries during this economic downturn. Even though farmers are cutting back crops’ acreage in 2009, the potential shortage in crops will eventually bring the crops’ acreage back to a higher level in 2010. Therefore, fertilizer companies will face a higher demand from farmers in 2010.

In my opinion, the recent sharp planting reduction will potentially lead to another commodity bubble in the coming year. If consumers are aware of this problem now, they can effective protect their food expenses by hedging on the cheap agricultural products’ futures contracts now.

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