HardAssetsInvestor

Written by Julian Murdoch  |

May 15, 2008

Ag Update

Details

We're in prime USDA report season, the seeds are going in the ground and investors are waffling.

• Aftermath of the prospective plantings report
• Crop progress and the biofuels update
• The rice crisis

The past few days have brought out some of the media big hitters in agriculture-land. The first was the USDA's World Agricultural Supply and Demand Estimate last Friday. The latest Crop Progress Report came out Monday. These two reports (along with the weather report) teamed up to move the ag markets, and are quickly shaping the season to come.

Complex Corn

Since the Prospective Plantings report back at the end of March, the market has priced in an expectation of lower production numbers for the 2008-2009 crop year due to fewer acres going for corn. With Friday's report, the market got some hard predictions as to what those numbers might look like.

The USDA projects that crop production is going to be 7% lower than this year. That number includes a yield which is projected to be 153.9 bushels per acre. That's a bushel down from the trend of the past 17 years due to slower-than-average planting.

Planting sounds nice, doesn't it? Digging in the warm earth, sun on your back, placing seeds gently into the warmth of sweet-smelling earth. Yeah, that's just not happening this year. Or at least, not in those sunny, dry conditions. If you've been following the ag media, you know that the farmers have been dealing with a lot of wet, rainy conditions that are just not conducive to planting. If you plant corn in soil that is too wet, the plants won't send out deep roots (would you push through the dirt for water if it were just sitting there on top?). Deep roots are essential to healthy, high-yielding corn surviving the heat of July and August. Shallow roots = dead plants, or at least low yields.

Corn also needs to be in the ground for a period to establish itself before the heat comes. Less time = lower yields. One estimate says that for every day past May 15 that corn is planted, you get a decrease of 1.5 bushels per acre per day. No wonder farmers are planting every dry moment they can.

The good news (for farmers) is that the weather report suggests those dry moments are going to get more frequent, which has served to at least hold corn futures level, or drop them a dime or two in the out-months. All the corn may not be in the ground by May 15, but there's hope that the vast majority can be in by next week.

That's the supply side of things. On the demand side, projections show total corn use dropping by 2%. Most folks would find that surprising, but it's been the expectation for a while. A reduction in corn going to feedstock and residual uses is going to outweigh the 33% increase of corn going for ethanol use. Yes, even at the high corn prices we've been experiencing, corn for ethanol use is going from 3 billion bushels of corn in crop year 2007-2008 to 4 billion bushels in 2008-2009. Of course, that rate of growth is not expected to continue. The USDA report states that construction on ethanol plants - both new and expansion of existing ones - has slowed, and plant utilization rates have dipped due to maintenance. And of course, corn's not cheap. If the USDA's projections are correct, ethanol plants (and everyone else) will be paying between $5 and $6 per bushel this year. Considering that the current price for the May futures contract is right around $6, this projection may be a bit low.

If you take the production side of things minus the consumption side of things, you end up with a projected decrease in ending stocks of 45%. That would put inventory for 2008-2009at the lowest it has been since 1995-1996.

If all that were a surprise, you'd expect the stock market to react a little wildly. Ending stocks down almost half? You'd think prices would be up.

Corn (C, CBOT) Daily

And they have been - since January. Apparently the market is a pretty smart animal. There is a lot of information out there - wheat in tight supply, soybean prices up, corn plantings down. This ending stock number didn't surprise many people. In fact, looking at the chart, there's hardly a hiccup.

More important than the old news of low stocks has been the continuing wet weather. If this week sees dry weather, those prices will continue to fall. If rain continues, there are some rumors that farmers might switch some of their corn acres to soybeans - they can be planted later than corn. That would throw a giant unknown into planted acreage, and speculators would go nuts.

Keep a weather eye on the horizon.

Oh, and just in case you're interested in how ethanol's price has been affected by the latest projections: