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In our previous article, we recommended an agricultural portfolio featuring grain ETFs, fertilizers, seeds and machinery, in addition to crop insurers, ethanol makers and meat producers. This article seeks to choose two stocks out of that long list, which we feel are poised to benefit the most from the prevalent dynamics of agricultural markets. As a result of the drought this year, farmers will strive hard to increase corn plantings next year, which will increase the demand for nitrogenous fertilizers. Due to its high nitrogen exposure, CF Industries Holdings (CF) will benefit from increased demand, which makes it our top pick among fertilizers. Likewise, seed manufacturers are also set to benefit from an increase in demand, which makes this industry worth investing in. Meanwhile, these companies have also started developing drought-resistant seeds, which are expected to experience huge demands. Monsanto Company (MON) remains our favorite, as its drought-resistant Droughtgard seedline, which is the first-of-its-kind drought solution as against its competitors' non-biotech seeds, will be launched in a few months, giving the company a sustainable competitive advantage. Another possible way of taking a diversified yet risk-averse position in the agribusiness sector is by being long in Market Vectors Agribusiness ETF (MOO).

CF Industries Holdings Inc.

As we indicated before, fertilizer stocks are best for long term investors who want to benefit from the decimated crop yields this year. This is because next year, farmers will target high crop yields to make up for this year's lost production, which came as a result of the worst drought experienced since 1956. According to the United States Department of Agriculture (USDA), corn requires the highest application of nitrogen amongst nutrients. Consequently, fertilizer companies with high nitrogen exposure, like CF, will benefit as farmers will be aiming for high corn plantings next year.

CF is the leading nitrogen producer in North America and has two main segments: Nitrogen and Phosphate. According to its recent 2Q2012 earnings release, the company's EPS increased by 24% on a YoY basis, due to a strong demand for its nitrogenous fertilizers and a gain on natural gas derivatives. CF has gained largely as a result of natural gas prices hovering around record lows, as this is the sole fuel and feedstock for all nitrogen fertilizer products.

CF's valuations look relatively cheap if we look at its forward P/E (8.5x) and EV/EBITDA (4.1x), although the stock is trading 81% higher than its 52-week low of $114.

CF

(POT)

(MOS)

Agrium (AGU)

Forward P/E (1 year)

8.45x

10.87x

10.36x

9.87x

EV/EBITDA (TTM)

4.13

9.54

7.02

5.62

Dividend Yield

0.8%

1.45%

1.7%

1%

Share Price Performance (YTD)

42.78%

-0.51%

14.83%

46.6%

Monsanto Company

Among agribusiness stocks, our top picks are those company that manufacture agricultural seeds, like Monsanto . This is because we anticipate an increase in their products' demand, given the sharp decline in crop output coming as a result of one of the worst droughts in history. Meanwhile, these companies have also developed drought-resistant seeds (to be launched soon), which can save crop yields from sufficient damage.

MON is one of the leading providers of agricultural products for farmers and has two main segments: Seeds and Genomics and Agricultural Productivity. It has developed a new biotech seed line, drought-tolerant seeds, which can help farmers mitigate the risk of yield losses when undergoing drought stress. This product line is called DroughtGard Hybrids and is the industry's first biotech drought solution, which uses genetic materials from other plants in addition to corn traits to develop drought fighting characteristics. According to Robert Fraley, Monsanto's vice president, "We're not making a specific claim on yields yet for Droughtgard, but we've seen increases of 5%-10% above normal in dry areas where it's been planted."

Competitors like DuPont Pioneer (DD) and Syngenta AG (SYT) are also developing drought-resistant corn seeds, but they are focusing on "old-school germplasm breeding in Aquamax and Artesian," rather than on biotechnology solutions. As these non-biotech solutions don't require any regulatory approvals and are using only corn traits to fight droughts, these companies have launched their respective products this year. On the contrary, Monsanto has been able to acquire USDA approval for Droughtgard, but is yet to obtain approvals from several foreign governments, before being able to commercially launch the product.

Fraley said, "You can't launch a new biotech seed line without approvals from all the major users. We expect to have all the approvals within the next few months."

The company's most recent quarter earnings have been splendid; showing almost a 36% YoY increase, which primarily came as a result of a huge increase (35%) in the sales of its corn seeds. In addition, the company's low debt-to-equity ratio of 0.18 and reasonable dividend yield of 1.7% make us recommend the stock. MON is just 3% below its 52-week high, but once Droughtgard is launched, we expect a huge upside, which makes us bullish on the stock.

Source: 2 Must Buy Agriculture Stocks