- El Nino and the Indian Monsoon is causing concern for the agriculture sector.
- Potential effects on sugar, coffee and dairy prices.
- Price impacts may be felt in physical commodities and in the food & beverage sector.
For agricultural commodity risk managers who are closely following the daily weather forecasts in anticipation of the arrival of the Southwest Monsoon in India this year, there is a heightened level of uncertainty now that we are in the first week of June and the onset is slightly behind the 'normal' schedule. Recent information from the India Meteorological Department (IMD) shows the progression of the northern limit of this year's Monsoon vs. normal; by this date, the Monsoon has typically progressed to reach much of Karnataka and Andhra Pradesh. Given last year's rainfall deficiencies, coupled with the recent heat wave which has been reported to be responsible for over 2200 deaths, the importance of the annual flow of moisture to the subcontinent in 2015 takes on a special significance. In addition, the behavior of the Monsoon will directly affect the Indian agriculture sector, but the effects go beyond the physical commodities. A healthy Monsoon means more agricultural production, leading to more liquidity into ancillary markets, stimulating overall economic output.
The IMD has forecast another year of deficient rainfall for India, in part due to the developing El Nino conditions, which may serve to limit the availability of moisture for parts of Southeast Asia. However, there are other groups (notably Skymet) who are publicly challenging the IMD view, calling for a better distribution of Monsoon rains this year. Skymet's methodology cites physical drivers such as the positive phase of the Indian Ocean Dipole (IOD), which correlates with conditions supporting better Monsoon convection and flow. Looking at both discussions, there are certainly plausible physical reasons to support both Monsoon scenarios. Any forecast, by nature, contains uncertainty, so regardless of which forecast camp one may belong to, additional tools are needed to assess: (a) the direct weather risk; (b) the commodity value at risk; and (c) the broader economic value at risk associated with Monsoon rains. Although the Monsoon has kicked off on southern India, most seasonal outlooks are still bearish on favorable seasonal totals. A moderate to strong El Nino will lead to a higher probability of limiting moisture to key sugarcane growing areas including India, Thailand, South China and Australia, with potential production and yield implications this year and next.
As we discussed in a recent post, the world's physical sugar balance has been in a surplus situation for the last five years, but through a combination of weather events and market forces, excess supply could be in jeopardy for both this year and next (15/16 and 16/17). If Monsoon rains are deficient in India (as well as the rest of Southeast Asia), we could see the supply-demand balance reverse, supporting higher prices in the months to come. While seasonal forecasts can, and should, be used as a guide, assessing the seasonal progression in real time, by crop and by geography, is a more prudent means to assessing crop and price risk. Commodity risk managers and analysts should be equally interested on focusing their analysis to specific geographic areas of interest, monitoring and assessing historical weather to try to determine crop potential and risk as it applies to their portfolio. In addition to setting up a potentially constructive scenario for commodity prices (primarily sugar and coffee), the food and beverage sector will be exposed to fluctuations in their raw material spend. As margins for companies operating in this sector are notoriously thin, a stronger market for these agricultural commodities may carry over into higher operating expenditures for soft drink, candy and snack coffee companies if they are not actively hedging their exposures. Rather than wait for a forecast to verify, a proactive means using to managing agricultural risk will put the engaged user in a position to take advantage of market moves 'before the weather becomes the news'.
This article was written by
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