Commodity traders who in late 1994 bet that falling supplies and growing demand would send grain prices soaring are now sitting on a silo of profits.
During the 12 months ended March 1996, the average price for a bushel of corn rose more than 66 percent, to a record high of $4.09, and wheat jumped almost 54 percent.
Thank the weather and government policy for a good part of those returns. In response to 1994’s record-setting corn crop, Uncle Sam required farmers to idle 7.5 percent of their land, while erratic weather helped cut yields by 30 percent.
As a result, domestic inventories are at an all-time low of 5 percent of expected consumption, and global inventories are at a 60-year nadir.
The long-term demand for grain also is soaring as people in the developing world eat more rice, wheat and corn, and put more grain-fed chicken, pork and beef on their tables.
Experts project that world demand for grain will grow 3 percent annually.
Three percent may not seem like very fast growth, but consider that a small increase in demand–such as the Chinese goal of doubling per capita egg consumption from 100 to 200 eggs a year by 2000–would consume the entire current grain crop of Australia, one of the world’s leading producers.
Investors who shy away from the risks of the volatile commodity markets don’t have to sit on the sidelines while this trend unfolds.
Although it’s hard to use the stock market to play the price of grain directly, the growing demand for food will lead to a greater need for seed, fertilizer, farm equipment and crop insurance–and companies producing those products are well represented on U.S. markets.
Although some grain-related stocks have already risen, the trends that sparked this runup should bolster them through the end of the decade.
The big news in corn–the grain with the largest share of the global market–is Bt seed. This genetically engineered product is resistant to the European corn borer, an insect that damages up to $1 billion worth of U.S. crops a year.
San Diego-based Mycogen (Nasdaq: MYCO) is a pioneer in developing Bt seed, and its patent is specific enough to put it out in front, even though giants like Monsanto are also working on Bt patents, says Jim McCamant, editor of AgBiotech Stock Letter in Berkeley, Calif.
Analysts expect Mycogen’s earnings to grow by 20 percent annually for the next five years. At $16 a share, the stock is off its 12-month high of $20. McCamant recommends buying it below $18.
Dekalb Genetics (Nasdaq: SEEDB), based in De Kalb, is the No. 2 corn-seed producer and just got a patent for its own Bt product.
Dekalb has revenues of about $320 million and only 10 percent of the market, but its small size actually makes it a better investment play than top producer Pioneer Hi-Bred International in Des Moines, which owns 45 percent of the market.
Every tenth-of-a-percent gain in market share translates into additional earnings of 9 cents a share for Dekalb versus only 2 cents for Pioneer.
In two years, Dekalb has increased its share by two percentage points; it plans to add five more by 2000. At about $70 a share, Dekalb’s stock trades at 32 times 12-month trailing earnings.
Even though analysts project growth for the company of 40 percent in 1996 and roughly 20 percent in 1997, they advise buying the stock on dips.
All those seeds will require a lot of fertilizer if they’re ever going to amount to anything–which is very good news for the U.S., the world’s largest fertilizer exporter.
The three types of fertilizers are nitrogen, phosphate and potash, and phosphate producers stand to gain the most, because a lack of phosphate has resulted in weak crop yields in China and the former Soviet Union.
“The phosphate industry, long characterized as the ugly stepsister, soon will climb out of her pumpkin,” says Robert Zwerneman, director of market research at Freeport McMoran Resource Partners, one of the world’s leading producers of fertilizer.
Phosphate prices fell roughly 20 percent in March, creating a buying opportunity in the stocks.
The purest phosphate play, Freeport McMoran, is too pricey, but its joint-venture partner, IMC Global (NYSE: IGL), is a cheap alternative, says Keith Chan of New Vernon Associates, a chemical research firm in Parsippany, N.J.
IMC Global, based in Northbrook, manages the world’s lowest-cost phosphate producer, IMC-Agrico, which is a bargain based on the ratio of its stock price to cash flow (6.4 times versus 6.8 for the industry)–one of the best ways to value such a company. Its stock could rise to $50, according to analysts at J.P. Morgan.
In the more competitive nitrogen market, First Mississippi (NYSE: FRM) is not only cheap but relatively less risky because only 37 percent of its business is making fertilizer.
“The chemicals side of the business gives a safety net to the seasonal ups and downs of fertilizers,” says Chan. Analysts agree the stock has an intrinsic value of about $32.
From planting to harvesting, farmers need more machinery to increase grain supplies. “U.S. machinery sales are highly correlated with acreage and the value of exports,” says Barry Bannister, an analyst at S.G. Warburg in New York. Deere & Co. (NYSE: DE), based in Moline, and Case (NYSE: CSE), in Racine, Wis., are the world’s biggest producers: In 1995, they respectively sold some $5.3 billion and $2.4 billion worth of farm equipment.
Deere’s stock has doubled since the start of 1995 and trades at 15 times 12-month trailing earnings. Analysts estimate earnings will rise 16 percent in 1996. Case’s stock trades at 11 times trailing earnings.
Both issues are near all-time highs and should be bought on weakness, says Bannister.
To counter nature’s whims, farmers buy Multi-Peril Crop Insurance. One pure play is Acceptance Insurance (NYSE: AIF) in Omaha. It makes money by increasing premiums as grain prices rise and from fees paid by the government to compensate crop insurers for their risk.
Its stock trades at 53 times trailing earnings (because of a big dip in earnings in 1995), but at only 8.8 times analysts’ 1996 earnings estimate of $1.69 a share, up from 28 cents a share in 1995.
