Five Reasons to Invest in Agriculture

1. “Quantitative Easing”

US government finally began its “Quantitative Easing” (printing money to buy treasures and other bad assets) process last Wednesday. No wonder SPDR Gold Shares (GLD) holdings rose to a record 1,084-tons last week, up 37% from eight weeks ago. As the world becomes less and less secure in normal investment classes, and people lose faith and confidence in paper money, people turn to hard assets and commodities such as Gold, oil, and agriculture, etc. If GLD and United States Oil (USO) can be up 30% over the last few months, there is no reason why PowerShares DB Agriculture (DBA) was only up 9% from its low.

2. The Consumer Is Back

Last Friday the Commerce Department reported that consumer spending edged up 0.2 percent in February, which follows a huge 1 percent jump in January. Consumer spending accounts for about 70 percent of US economic activity. This seems to be a good sign for recovery. It is easy to free credit because the Fed can always pump in more money (the sky is the limit). However, it is much more difficult for people to spend.

3. Increased Demand from Developing World

Changes in global demand resulting from population growth and changes in standards of living will no doubt push up agriculture price. As Kevin Phillips, author of American Dynasty and American Theocracy, pointed out in his new book Bad Monday, in the US, food represents 14% of the consumer price index, but the ratio is much higher in China (33%) and India (46%). In other words, China and India spend much more of their income on food than the US. Even in a recession, people have to eat.

4. “Agflation”

Two economists at Merrill Lynch coined the term “Agflation” in Spring 2007. It means an increase in the price of food that occurs not only from increased demand from human consumption, but also from its use as an alternative energy resource. As oil stands over $52 now, demand from the biofuels industry should also help demand for agricultural products. Also, “peak oil” means the price increases for grain, soybean, and corn may be more long-lived.

5. Other Unpredictable Factors

Any unpredictable surprises will push up agriculture's price, such as adverse weather conditions, farmer planting decisions, government farm programs and policies, even the occurrence of plant disease, etc.

There are quite a few ways to play with Agriculture. You can buy related industries such as the Agricultural Chemicals industry. Monsanto (MON) is the biggest player in this field, with market cap of $48 billion. It produces corn, soybeans, canola, cottonseeds, vegetable and fruit seeds as well as provides agricultural products for farmers. Potash Corp. of Saskatchewan (POT) is the 2^nd largest, with market cap of $26.4B.

The other direct related industry is Farm Products industry. Archer-Daniels-Midland (ADM) is the biggest one, with market cap of $18.6B. It procures, transports, stores, processes, and merchandises agricultural commodities and products. Bunge Ltd. (BG) is a distant 2^nd, with market cap of $7.2B.

Agriculture business is capital intensive in nature. In today’s credit crunch market, limitations on access to external financing could adversely affect companies’ operating results. These companies require substantial capital to maintain and upgrade their storage facilities, processing plants, refineries, mills, ports and transportation to keep pace with technological development, regulation requirements and safety standards in the industry, just to name a few.

I chose DBA instead. It is composed of futures contracts on some of the most liquid and widely traded agricultural commodities such as corn, wheat, soybeans and sugar. It jumped 1.71% on 03/19/09 in more than five times average volume.

As you can see from chart below, over the last 2 years (since its inception), DBA’s (in blue) performance mirrored both Agricultural Chemicals and Farm Products industries.

Source: Yahoo Finance as of 03/27/09.

If history is any guideline, you might as well choose Agricultural Chemicals industry such as MON or POT, since they over-performed DBA by more than 50% over the last 2 years. But look at volatility in the chart above, which conservative investors can’t stand.

After all, even US CPI is using “core” measurement that excludes food and energy because of their “volatility”.

Disclose: I have a long position on DBA.

Comments

[cjwirth:]

Hao Gin is right!

And this is not the time to invest in gold and silver: survivingpeakoil.blogs...

And the dollar is not safe:
survivingpeakoil.blogs...

Mar 29 09:19 AM

[Alan Young:]

Your reasons sound good, and I had several of them in mind when I went long in DBA a few months ago. But the fact is, it's been range-bound since November, with no current sign of any bullishness, despite all those good reasons. Ergo, there are other factors keeping it cheap, which have not been articulated here.

Mar 29 01:20 PM

[johnbee:]

Has to be a good argument in comparison to Gold but one good reason to beware DBA and similar is that there have been three very good harvest years and food stocks are very high. wait to see who plants what since farmers are not buying expensive fertiliser right now.

Mar 29 01:49 PM

[rocco69:]

Your best investment right now is to grow your own food; no pesticides, no chemicals, just good old dirt and non-GMO seeds. The effort should provide you with plenty of fresh and plentiful veggies and the only investment will be hard work and dirty hands. Better for the kids too.

Mar 29 04:14 PM

[Farmland In...:]

DBA is a useful starting point but there are some interesting alternatives to listed equity based agriculture investments. Direct investments in farmland demonstrate annual returns that exceed equities but with significantly less risk/volatility. In addition, farmland is arguably one of the best inflation hedges available - so much so that farmland has been described as "gold with yield". Jim Rogers views agriculture fundamentals as the best of all asset classes currently. A belief he holds so strongly that he has joined the advisory boards of two direct farmland investment funds:

Agcapita (Canada - some of the least expensive farmland in the world on a $/bu yield basis, then factor in first world infrastructure and low political risk)

and

Agrifirma (Brazil - bringing unfarmed land into production on a large scale)

Mar 29 04:26 PM

[Tao Shen:]

DBA is the way to go, but recently the money is going to the stock market. just wait, the action is near.

Mar 29 09:26 PM

[jits:]

well put, but i do not support biofuels because of the trade off it creates between using land for food or energy.

Mar 29 09:43 PM

[bones33:]

I'm with rocco.I'm growin my own like the pilgrims did.

Mar 29 11:34 PM

[naidle:]

The consumer is back? Really?

Mar 29 11:54 PM

[Jake2:]

DBA is pushed by Jim Rogers, right? A nice man but I don't quite believe his spiel.

Mar 30 02:23 AM

[JohnHu:]

Since the US gov has been pushing hard on QE, I suppose inflation is apparent to come no matter the economy recovers or not. Furthermore, crops price usually go with seasonal cycle with most supply come out in autumn harvest, where the price starts to fall; but during summer and late spring, supply tightens and the prices go up. As for now, I don'e see any reason for corp price to go down unless all losing-job men go framing.

Thus it's about time to get in. I would say go with the fertlizers. You'll find bases are clearly formed if you check the chart of AGU and MOS; and CF might have a chance to form a cup-with-handle later. Though still volatile, but these ones are more or less not that volatile as POT and MON.

Mar 30 04:40 AM

[castlegard05:]

Archer Daniels Midland has always been my favorite stock to own - long. I liked the article very much and have added Mr. Hao Jin to my Watchlist.

Mar 30 05:27 AM

[T. Marc Sch...:]

I agree with this article as well. Agriculture is looking like a real safe investment during these rough times. Here is a blog that talks more about how agriculture is a good investment. farmlandforecast.colvi.../

Hao Gin makes some great points

Mar 30 10:43 AM

[Jordan Rizzuto:]

One reason that the DBA has underperformed the USO or GLD is simply that the DBA derives its value from four underlying markets: corn, soybeans, wheat, sugar. While the grains will tend to move as a group, grain market fundamentals will always support or weigh on the individual DBA components.

To understand the outlook for DBA and the fertilizer companies beyond simply the inflation play, traders/investors must follow these fundamentals. We cover these issues frequently on Seeking Alpha and StormX:

stormx.com/agricul.../

stormx.com/agricul.../

stormx.com/agricul.../

stormx.com/agricul.../

Mar 30 11:59 AM

[donzelion:]

I'm still sitting on the fence between DBA and MOO, for much the same reason as splitting the difference between gold miners v. gold. As far as the tax implications, I'd guess that buying a bit of both makes sense if one really wants to play in agriculture without exposing oneself too much to any specific company.

Mar 30 02:00 PM

[urbanhiker:]

Your projections are full of holes, that is why farm products, farm equipment manufacturers, food processors are not making money. Nothing will change until this global recession is over. "Everyone has to eat", a simple concept but does not explain why the grains are down 50% or more. By the way, USO 1/2/09 price $35.63, 3/30/09 price $28.70(up 30%?)

Mar 30 06:59 PM

[engineserv:]

How about the Chinese Ag companies like FEED or GRO? They have lower multiples and higher growth.

Mar 31 07:03 AM