Boost in China Consumption Could Mean Higher Corn Prices

Includes: DBA, JJGTF
by: Sara Nunnally

I have to issue a major correction from last week's article in which I said that the PowerShares DB Agriculture ETF (NYSE:DBA) was mostly made up of coffee futures. This is not the case.

I relied on Yahoo Finance's information on the ETF's holdings, which claimed to be accurate as of May 31, 2011. Here's a screenshot.

I should have looked closer. There are some futures in there with an expiration of 2010. I sincerely apologize for the mistake.

Corn Prices and Corn Consumption

So let's go back to DBA, and the iPath Dow Jones UBS Grains ETN (JJG) we talked about last Thursday ...

But let's talk about them in the light of a article from Monday. Here's an excerpt:

Corn purchases are accelerating as droughts and floods limit output gains in everything from soybeans to wheat, driving the Standard & Poor's Agriculture Index of eight commodities 60 percent higher in 12 months. China, the world's second-biggest consumer after the U.S., will use 47 percent more than a decade ago, adding an amount greater than the entire crop of Brazil, the third-largest producer.

You read that right ... China's corn consumption has grown more than the entire corn harvest of Brazil!

In the face of record corn harvests, the world is still "eating" more than its making.

(I put eating in quotes because this includes corn used for feed and fuel, which, as you all know, I'll be more than happy to talk to you about at a later date ...)

The USDA says the world will grow 866.2 million metric tons of corn -- up 5.6%. Corn consumption, however, could be as high as 871.7 million metric tons.

This shortfall has analysts predicting corn prices at $9 a bushel by the end of the year. Any kind of hiccup in supply would send corn prices this high in a jiffy, pun intended. And we're already seeing some major threats. There have been episodes of "extreme" weather in key states.

Things like flooding, severe storms and abnormally high temperatures have already hampered planting.

So what does this mean for investment vehicles like DBA and JJG? It could mean profits ... but we'll have to wait and see.

Here's a time frame to keep in mind. Rabo AgriFinance says that July and August are key months for corn crops. Up until now, the group says, "More things have gone wrong than have gone right."

We could see more short-term weakness for both DBA and JJG until we know more about the corn crops. But we don't have long to wait.

I told you on Saturday to watch for prices to break below $51 for JJG. This point needs to provide price support for JJG in order to justify still holding it in your investment portfolio. If this level is maintained, you may want to keep holding.

Let's keep an eye on DBA, too. There might be another point where DBA would be a good asset. I'll certainly keep giving you updates on this ETF as we head into summer.

There's another connection to higher corn prices, though, that I want you to know about.

Crude Oil and Corn Prices

We've witnessed unparalleled uprisings around the world because of sky-high food prices. Food inflation isn't just making the Chinese government boost interest rates; it's causing poor and hungry people to overthrow governments.

We saw this in Tunisia and Egypt. We're still seeing conflict in Libya and Yemen, Syria and Bahrain. We even saw protests in Iran and Saudi Arabia.

These countries have something major in common. Crude oil.

Whether or not they produce crude oil, the nature of unrest in the Middle East makes oil prices jump. How else -- in the face of worldwide economic troubles and a 6.2% slump in demand compared to 2007 -- can oil prices be sustained above $90 a barrel?

None of these issues are going away soon. And we've already seen the cracks in the Middle East widen. On Monday, June 13, I told you how OPEC is having trouble maintaining its unity. By acting together, this crude oil cartel can have a strong effect on oil prices by controlling production.

But at its most recent meeting, the group came away heavily divided. Western allies like Saudi Arabia wanted to increase production, but other countries joined forces to stop the boost in quotas.

This kind of infighting spells trouble -- both for stability in the Middle East and for crude oil prices.

Things could get ugly ... Or uglier. A lot of folks think the unrest in the Middle East and North Africa is drying up.

This couldn't be further from the truth. And your own investment portfolio and standard of living could be in the crosshairs, unless you're prepared.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.