By MoneyMorning.com.au
Most investors are feeling cheerful. Bullish bonhomie abounds.
But beware: consensus thinking among investors tends to be wrong. When sentiment changes, the impact on markets can be nasty. And the higher stocks have climbed, the bigger the potential damage to prices.
What might be the catalyst for such a change in trend? Often the biggest threats to markets stem from unexpected events, or from something that had been discounted as a risk factor.
There’s one such risk that everyone was worried about a year ago. Since then, it’s dropped right off the radar screen.
But it could be about to come back and bite us again.
Don’t Forget the Risks of Rising Food Prices
This time last year, one statistic was freaking out politicians and markets alike: global food prices had risen by more than a third within a year.
Demand was growing faster than supply; bad weather had caused poor harvests; soaring feed costs made animals more expensive to rear. So farmers had to push up selling prices to make ends meet.
Speculation almost certainly played its part too. Central banks had decided that QE – quantitative easing, ie printing money – was the answer to all the world’s ills.
But this extra cash ended up in the hands of bankers and traders. And true to form, it started to burn a hole in their pockets, so they punted big chunks of it on the commodity markets.
That made matters worse. Then the surge in the cost of basic foodstuffs filtered into supermarket prices. This drove up overall inflation.
Here in the well-fed West, we put up with it, and accepted we’d have less to spend on other things. But elsewhere, soaring food prices caused riots, and were a major factor in the Arab Spring uprisings. The 2007-2008 world food price crisis was repeating itself.
The Beauty of Markets
But the beauty of markets is that they’re largely self-correcting. That’s another way of saying that rising prices make the production of those basic foodstuffs more appealing. Farmers see rising prices, so they plant more crops and rear more animals. As a result, supply picks up, and prices fall.
And market forces did kick in: last year saw a record wheat crop; other cereals also saw better harvests; strong demand for culled cows and higher milk prices boosted dairy livestock markets; and so on.
So the last 12 months have been much better for food consumers. Wheat prices in particular fell by 18% in 2011. Between last February and the end of last year, the Food and Agriculture Organisation (FAO) Food Price Index – the UN’s main food price measure – dropped by around 11.5%.
But global food costs are on the rise again. The FAO index rose by 1% in February alone. This is the second month running that global prices have gone up. And while that still leaves the index 10% down on a year ago, it’s a worrying sign.
What is causing the price rises this time round? Adverse climatic conditions are still affecting key growing regions such as South America and Europe, according to the FAO.
Wheat prices are up 9% from this year’s low on 18 January. Soybean prices are 20% higher than they were in November on concerns that hot, dry weather would hurt South American crops. Unhelpful conditions in Brazil, the leading exporter of sugar, have driven up its cost too.
For the moment, the FAO reckons there’s no great cause for alarm: the world won’t see a repeat of the 2007-2008 and 2010 food cost explosions. But that may be too sanguine a view.
That’s because global inventories of wheat and soybeans are falling more rapidly than expected. This could drive supply and demand out of kilter again, which would drive prices higher once more.
The US Department of Agriculture (USDA) has just cut its forecasts for world wheat stockpiles on 31 May by 1.7%. That would reduce them to a level lower than expected by all 21 analysts surveyed by Bloomberg.
Soybean reserves will hit a three-year low by 31 August this year, says the USDA. Even more dramatic, levels of corn inventory held in the US – the world’s top grower and exporter – are now forecast to drop to their lowest levels since at least 1996. Farmers aren’t keeping up with rising demand for food, livestock feed and biofuel.
What’s more, the USDA lowered its outlook for Brazil’s wheat crop by 4.9% compared with last month and Argentina’s by 3.1%. Again, that is likely to lead to higher prices than were earlier expected.
And if food costs do start to rise more rapidly, there’s a high chance those bankers will want to get involved again with their QE cash. If central banks print even more money – and there’s every chance of that – commodity speculators will be given further ammo to drive prices up.
David Stevenson
Associate Editor, MoneyWeek (UK)
Publisher’s Note: This article originally appeared in MoneyWeek (UK).
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Tradervox (Dublin) – Shaky Eurozone PMI has caused the euro to decline against the safe haven currencies. The PMI result came in below the 50 boom-bust value indicating contraction in the market. The euro declined against the yen and the dollar after the manufacturing and services index contracted more than forecasted for the month of March. This has boosted demand for the safe haven currencies hence increasing the value of the yen and the dollar against the euro.