Market Myopia — The Power Of The Dark Side

There is a broad body of theory that underpins our understanding of market behavior, especially financial markets — namely, that markets are rational. However, we believe there are times when markets, and, especially market players, become the victim of myopia, reflecting over-optimism, herd mentality and short-term thinking.

Many times, the lack of focus and inability to balance an understanding of how the dynamics of today’s markets fits into a broader, long-term perspective, including knowledge of historical cycles, creates key strategic points of inflections. The aftermath creates financial risks for some players and opportunities for others.

Midwest agriculture faces such a key strategic point of inflection, which will impact farmers and all suppliers to the farmgate, as well as the ag-retail/distribution system. In addition, an under-appreciation of these dynamics has significant strategic implications for companies’ business strategies and business models.

This article, the fifth in this series, focuses on our view that the key driver that will catalyze a major market reversal and secular downtrend in crop prices, profitability and farmland values is “The Power of the Dark Side.” Market myopia, in our view, has led players to under-appreciate the potential combined impact of three overlapping cycles on the global supply side dynamics for grains, especially corn.

The Power Of The Dark Side

There is no better example of the dynamics of the “Power of the Dark Side” than what has happened to the U.S. natural gas industry, which has gone from a shortage to a surplus in a little more than five years. The strategic point of inflection was driven by a quantum jump in natural gas prices to over $14/1,000 cubic feet (mcf), which created incentives to expand production and technological innovation (horizontal drilling and hydraulic fracturing). Shale gas has strategically altered the long-term natural gas supply outlook. This strategic transformation has driven prices down to below $5/mcf and the dramatic scale of new discoveries has resulted in the prospect of a long-term U.S. surplus.

Simply, the power of the supply side, reflecting “Economics 101” at work, suggests that Ag Bubble 2.0 could dramatically deflate. (See our article in the October 2011 issue of CropLife® entitled “Irrational Exuberance Or The New Normal.”)

Malthus And Halloween Day – History Creates Perspective

The under-appreciation of the power of supply side dynamics in agriculture goes back in history many centuries. However, the most notable was Thomas Malthus, who in his 1798 writings, “An Essay on the Principle of Population,” argued that humanity would be subject to long-term food shortages and starvation. His rationale was based on his view that human population increases geometrically, while food supply can only increase arithmetically, especially since farmland resources were finite.

More recently, during the last half of the 20th century, there were many dire predictions that humanity would not be able to feed itself. However, food production has increased more rapidly than population growth during that period, though malnutrition in parts of the world has been directly tied to impediments to food distribution.

And on Halloween Day 2011, significant media attention was paid to the United Nation’s estimate that the world’s population crossed seven billion people at the end of October 2011. Recognition of this threshold has reinforced the view that U.S. agriculture will “feed the world.”

The Power Of The Dark Side – Convergence Of Three Overlapping Cycles

From a U.S. perspective, the key driver of the “Power of the Dark Side” of agriculture’s supply side dynamics is the convergence of three cycles that will likely create significant U.S. and global upside supply surprises over both the short- and long-term.

Table & Diagram

A table and diagram for “Market Myopia — The Power Of The Dark Side” can be found in the January 2012 issue of CropLife magazine.

The combined impact of the three cycles is expected to drive long-term supplies above long-term demand, creating intensifying downward price pressures, with continued price volatility fluctuating around the downward trend line. These dynamics will result in short- and long-term vulnerability to the current level of crop prices and profits, especially for corn, which will contribute to the deflation of farmland values. While prices over the intermediate-term will drive profits to breakeven levels for the average U.S. corn producer, efficient low cost producers will continue to generate significant profits.

Short-Term Cycle (One to Three Years) – Supply/Demand Deviation Cycles

Short-term ag commodity supply/demand cycles largely reflect short-term market deviations. Most notable is the impact of adverse weather on the supply side in major production or consumption areas. Short-term cycles can be also be generated by downstream market demand volatility, such as inter-crop market adjustments to short-term price changes, which temporarily alter normal usage patterns (i.e., current substitution of the wheat feeding of cattle, at the expense of corn).

These cycles are self-correcting in the short-term, as evidenced by the global wheat industry. In mid-2010, markets were caught off-guard from the adverse impacts of drought and fires on Russian and Ukrainian wheat supplies, which created a global supply shortage and a spike in prices. In just one year, the global wheat industry has found itself with excess supplies and dramatically lower prices, resulting from a global supply response to higher prices and a return to normal growing conditions in the affected areas.

Following two years of weather impacted corn yields in 2010 and 2011, U.S. corn production could rebound dramatically, based on a return to normal yields in 2012, unless the current continuation of the La Niña weather pattern results in another year of major yield reductions. Even if yields are significantly impacted by La Niña through the upcoming planting/growing season, the rebound in yields and supply will only be delayed until 2013.

Intermediate-Term Cycle (Five to 10-Plus Years) – Technology Innovation Cycles

Technology development and broad adoption has been a major driver of ag productivity in terms of yield gains, lowering costs, as well as expanding economically viable acreage. Greater use and the optimization of fertilizers, crop protection products, seeds with biotech traits, enhanced farm machinery/technology, and modern farm management practices will be continue to be major drivers of ag productivity, especially outside the U.S.

In the future, U.S. and global farm productivity gains are expected to be increasingly driven by the broader use of two major long-term technology innovation cycles: (1) biotechnology-driven enhanced breeding and additional trait development; and (2) precision technologies (use of integrated field specific agronomic information/technology/machinery).

Biotechnology-Derived Traits and Enhanced Breeding. While emphasis has been placed on biotech trait development, we believe agriculture is on the edge of broad-based yield gains and agronomic benefits from enhanced breeding, utilizing biotech derived tools and knowledge.

Agricultural productivity has benefitted from the widespread adoption of biotech traits, which has largely focused on herbicide tolerance and insect resistance traits. Biotech trait development continues to broaden to targets, such as abiotic stress (drought tolerance) and nitrogen utilization, which could have a substantial impact on accelerating yield gains, improving cost productivity, reducing risk and expanding acreage.

We believe significant advances in both offensive yield gains and defensive agronomic trait performance will be derived through enhanced breeding. Through the development of biotech-derived tools, combined with the progress in understanding plant genetics, farmers have started to see the field/economic benefits from the application of biotech-derived breeding technologies (marker assisted selection – combination of traditional genetics and molecular biology) to complex multi-genic agronomic traits in corn and other crops, resulting in both improved yield and defensive characteristics, such as disease resistance.

Precision Agriculture. Precision equipment (e.g., GPS and autoguidance) and precision services (e.g., fieldmapping and soil sampling) have been increasingly used to optimize soil/agronomic variability, input usage and field work, in order to enhance yield, cost productivity and profits.

A major disconnect that has limited effective use of these technologies is the rigorous quantification of the economic/financial benefit from the use of precision ag technologies/services in order to enhance decision making to improve yields and crop profitability. The precision ag industry is tackling this challenge, which will promote more aggressive adoption.

The key long-term challenge is the creation of a “holistic” approach that recognizes the interaction between plant genetics, soil chemistry, production management and information/technology/machinery systems. This integrated approach will result in improved yields, cost productivity, profits, risk management, and more consistent financial returns.

Long-Term Cycle (10-plus years) – Global Supply Cycle

The most significant global supply driver is the long term cycle reflecting accelerating global productivity gains outside the U.S, based on accelerating yield gains, improvements in cost productivity, and an expansion of global acreage. Two factors are of significance, in terms of future global supply growth: (1) potential for dramatic corn yield gains outside the U.S. In contrast to weather depressed estimated U.S. corn yields of 147 bushels per acre in 2011, non-U.S. yields are estimated at 65 bushels per acre; and (2) expanding acreage, especially outside the U.S.

It is estimated that average corn yields outside the U.S. increased by 2.4% per year over 2000-11, compared with 0.6% for the U.S. over the comparable period. (If U.S. corn yields in 2011 were normalized, on the order of 162 bushels per acre, the estimated yield growth rate would have been 1.5% per year from 2000-11.) Non-U.S. corn production has increased by 4.4% per year over 2000-2011, compared with a 2% annual gain (2.9% per year gain, weather adjusted) for the U.S. over the comparable period.

From a U.S. perspective, the greatest supply impacts will be driven by the short- and intermediate-term cycles, which will likely generate significant upside corn production increases relative to U.S. demand. In contrast, the most potent supply drivers outside the U.S. are the intermediate- and long-term cycles, which are expected to result in a dramatic acceleration in global production gains, especially for grains and corn.

Impact Of The Power Of Supply Side – Intensifying Competition

We believe the biggest surprises in the future will be dramatic increases in non-U.S. production. Dramatic production gains by many foreign countries will intensify competition with U.S. agriculture for export markets. A good example was the recently reported large Japanese purchase of corn from the Ukraine, at the expense of U.S. exports, since the U.S. has historically been the major corn supplier to Japan.

It is important to recognize that many of the key developing economies have emphasized the strategic importance of enhancing their “food security,” based on improving and expanding local production, as well as developing new business models to control new food supplies. A good example is China’s aggressive development of directly owned or co-owned large scale farming operations in Africa, countries from the former Soviet Union and South America.

We believe it would be very risky for U.S. agriculture to believe that it will “feed the world,” thereby creating a dramatic long-term sustainable increase in export demand to mirror expected production gains. While the U.S. has been a major exporter of corn, soybeans and wheat, which dominate Midwest agriculture, exports have been volatile due to production gains outside the U.S., as well as the dramatic volatility in the value of the U.S. dollar. It is more likely that U.S. agriculture will continue to maintain its position as the “supplier of last resort,” as evidenced during the 1970s, and more recently, over the past few years, when global supplies became short due to weather induced supply constrained short cycles.

Leave a Reply

One comment on “Market Myopia — The Power Of The Dark Side

  1. The part you have not accounted for is the increase in spending for food by the developing countries. Much of the world is having more money available for spending on food. They first want to use better oils for cooking and not water. Then they want better grains and then meat which means more demand for grains.

State of the Industry Stories

State of the IndustryAgriculture’s Troubled Waters
March 3, 2014
Water quantity and quality issues threaten to hamper agriculture on a wider scale in the not-too-distant future. Technology breakthroughs and improved practices are providing potential solutions. Read More
State of the IndustrySponsor Profiles: Simplot, SST And WinField Support CropLife State Of The Industry Report
January 8, 2014
The sponsor partners of the CropLife State of the Industry report have demonstrated ongoing leadership including their support of this report. Read More
State of the Industry2014 State Of The Industry: Agricultural Concerns Creep In
January 2, 2014
With many strong sales years under its belt, the agricultural community is hoping for another positive growth experience in 2014, but mindful of a few challenges that might keep this from happening. Read More
State of the IndustrySeed Systems Top Watch List
January 2, 2014
Retailers are closely following herbicide tolerance and drought resistance traits. Read More

Trending Articles

CropLife 100Agrium To Cut 500 Jobs, Sell Some Businesses
November 11, 2014
Among the businesses Agrium will try to sell are its micronutrients and European UAN (urea-ammonium nitrate) lines. Read More
HerbicidesMonsanto, Sumitomo Chemical And Valent Extend Crop Protection Collaboration
November 10, 2014
The agreement extends their strategic partnership in Monsanto’s Roundup Ready PLUS Crop Management Solutions platform for soybeans and cotton in the U.S. Read More
FertilizerCorn Rootworm Hybrids And Potassium Uptake
November 4, 2014
To achieve successful yields, grower-customers can’t afford to cut back on their potassium use with corn rootworm hybrids, say experts. Read More
StewardshipResponsibleAg Begins Auditor Training
October 31, 2014
ResponsibleAg auditor training is now underway at the Ford B. West Center for Responsible Agriculture in Owensboro, KY. Read More
InsecticidesNew Research Study Shows The Value Of Neonics
October 29, 2014
The study evaluated seed treatment, soil and foliar uses of neonicotinoid insecticides in the U.S. and Canada. Read More
Crop InputsPlatform Specialty Products To Acquire Arysta LifeScience
October 20, 2014
Once the acquisition is complete, Platform Specialty Products will combine Arysta LifeScience with previously acquired companies Agriphar and Chemtura Crop Solutions. Read More

Latest News

Eric SfiligojGiving Thanks For Another Great Year
November 24, 2014
As Thanksgiving Day 2014 arrives, agriculture has plenty to be thankful for. Read More
Crop InputsSyngenta Cost-Cutting Program To Affect 1,800 Jobs
November 24, 2014
The company's Accelerating Operational Leverage program will result in job reductions and relocations totaling around 1,800 across the company, the majority of which will occur in 2015. Read More
EquipmentAGCO Announces Operator Of The Year Finalists
November 20, 2014
Four custom applicators have been selected by AGCO Application Equipment as finalists for 2014 Operator of the Year, an honor that recognizes them as being among the top professionals in their industry throughout North America. Read More
MicronutrientsH.J. Baker Expands Tiger-Sul Business
November 20, 2014
H.J. Baker has created and filled two strategic positions in business development and sales within its Crop Performance Division. Read More
soybean field
FertilizerGeneral Mills Honors United Suppliers For Nitrogen Opti…
November 19, 2014
United Suppliers winning proposal detailed SUSTAIN, a consulting network that provides customized products and services for farmers using a needs-based system approach. Read More
EmployeesOhio AgriBusiness Association Awards $25,000 In Scholar…
November 19, 2014
Each year, the Ohio AgriBusiness Association Educational Trust scholarship program awards scholarship dollars to students enrolled in an agriculture-related field attending several state colleges. Read More
ManagementServi-Tech Names New CEO
November 17, 2014
Servi-Tech has named Greg Ruehle its new president and CEO. Read More
CropLife 100Pinnacle Ag Acquires Colorado Aerial Application Outlet
November 17, 2014
Ft. Lupton, CO-based Reck Aviation — a full-service chemical application company providing aerial crop applications of fertilizers and crop protection products — will operate as part of Pinnacle's AgOne Application Services brand. Read More
Eric SfiligojMcDonald’s Message: Biotech Crops Scarier Than Cancer
November 17, 2014
Despite their potential health benefits, one of the world’s largest potato users will pass on a new biotech offering. Read More
MicronutrientsWinField Releases 2014 NutriSolutions Results
November 14, 2014
A number of significant regional and national crop deficiency trends emerged from the 2014 WinField NutriSolutions tissue sampling program. Read More
FertilizerH.J. Baker Opens Chinese Production Lines
November 14, 2014
The occasion was the official launch of the Tiger-Sul sulphur Bentonite production line of two much anticipated fertilizer products in China, T90CR sulphur fertilizer and TZinc micronutrient enhanced sulphur fertilizer. Read More
ManagementOhio Certified Crop Adviser Program Accepting Nominatio…
November 14, 2014
The award recognizes an individual who delivers exceptional customer service for farmer clients in nutrient management, soil and water management, integrated pest management and crop production in Ohio. Read More
HerbicidesSyngenta Announces Acuron Trial Plot Results
November 14, 2014
Acuron was tested at 167 trial locations across 35 states. Trials included 95 Syngenta locations, 54 university locations and 18 distributor locations. Read More
Crop InputsVerdesian Expands Sales Force
November 13, 2014
The new sales representatives will work with growers, retail partners and distributors to oversee technical training and product education. Read More
EquipmentAGCO Raises $100K For Wounded Warrior Project
November 13, 2014
AGCO Corp. partnered with local AGCO dealers across the U.S. and Canada to raise nearly $100,000 in support of wounded service veterans. Read More
HerbicidesDow AgroSciences Announces Launch Of Enlist Duo Herbici…
November 12, 2014
It will be launched in conjunction with a stewarded introduction of Enlist corn, and seed production of Enlist soybeans in 2015. Read More
FertilizerH.J. Baker Expands Tiger-Sul Business
November 12, 2014
Agricultural firm H.J. Baker has created and filled two strategic positions in business development and sales within its Crop Performance Division. Read More
Blenders13 Fertilizer Blenders For 2015
November 12, 2014
Dealers can find a fertilizer blender to deliver any speed, volume and custom mix they want. Read More