Economists and investors alike have worried about the possibility of deflation. There's absolutely no sign of deflationary pressure in the price of food commodities, however, and smart investors can take advantage of the opportunity to invest in companies that will benefit and get rid of stocks that could suffer.
Prices on the rise
When most people think of the commodities boom in 2007 and 2008 before the bear market in stocks started, what they remember is $4-a-gallon gasoline and oil prices in the triple digits. But many other types of commodities, including some used for food production, also saw big gains. When energy prices fell in late 2008, though, so did most prices for food commodities.
Lately, though, those prices have rebounded sharply. Here are a few examples:
- Coffee prices have jumped about 30% since the beginning of June, as poor crops in Brazil, Colombia, and Central America are raising concerns of tight supplies.
- Sugar on the world markets has seen its price rise from less than $0.14 per pound in May to nearly $0.20 per pound today.
- Corn prices have risen nearly $1 per bushel to more than $4.40.
- Wheat has retreated from its highs earlier this month, but it remains up more than $2 per bushel since late June.
Obviously, these markets have a direct impact on several agricultural stocks. When the price of crops goes up, farmers have more money to spend on fertilizer, which helps improve profits for Mosaic (NYSE: MOS) and other companies that produce it. More cash flow also makes it easier for farmers to make capital investments in seed and equipment, boosting prospects for Monsanto (NYSE: MON) and Deere (NYSE: DE).
The ripple effect
But food markets have significant effects well beyond the agricultural space. Consider the following:
- Higher coffee prices have already led several companies, including Kraft Foods (NYSE: KFT) and J.M. Smucker (NYSE: SJM), to raise the prices they charge customers. Starbucks (Nasdaq: SBUX) has resisted price increases -- having recently reaffirmed its earnings guidance despite the higher costs -- but in the long run, higher coffee prices can and will have an impact on its bottom line, as well.
- In a story resembling tales of the Hunt Brothers cornering the silver market in the late 1970s and early 1980s, hedge fund manager Anthony Ward is believed to have spent $1 billion buying up more than 240,000 tons of cocoa beans. The story has some concerned about stocks such as Kraft, which recently bought chocolate maker Cadbury, and Hershey (NYSE: HSY), even though cocoa is only a small component of chocolate production.
In the broader picture, rising food prices may well be a sign of things to come. With the world population continuing to expand and quality of life in emerging markets like China and Brazil steadily improving, demand for food could continue to rise sharply. Unless technological advances can continue to improve crop yields to help supplies keep pace with demand, then gains that food commodities have seen could well be just the tip of the iceberg.
How to profit
Before you start buying food producers and short-selling the companies that rely on food commodities as inputs for their products, take a close look at the financial statements of each company to see whether they hedge their exposure to changing commodities prices. Many companies have hedging programs that allow them to lock in all or part of their supply needs, sometimes for years into the future. So you can't conclude that a price hike will immediately create problems.
Still, though, it's important to realize that the financial markets all connect to one another. What happens in a far-off, seemingly unrelated corner of the market can have a big impact on major companies. If you're prepared, you can turn a potential megatrend like higher food prices to your advantage.
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