In the past few quarters, farmers haven’t been feeding only cities; they’ve been feeding returns in the portfolios of investors, as agricultural commodities have soared. While this is great if you are well positioned, some macro-level economists, such as Donald Coxe, are worried that hedging your investments is not enough against the looming food crisis.
“Sure, there are people that say there is still enough food in the world, but that’s rather like saying there is enough oil in the world because they added in the oil in Russia, Venezuela and Kazakhstan,” explained the global portfolio strategist at BMO Financial Group, as he addressed a packed luncheon event on Wednesday organized by the Toronto CFA Society. He concedes that it is a good theory, but reality just doesn’t prove the theory. Coxe is convinced that, despite political protestations around the world, a food shortage is starting.
The basic reasons for the shortage boil down to two factors: a rising global middle class that is adding meat and dairy to their diets and an antiquated global agriculture system that relies on tariffs, subsidies and artificially suppressed production.
“Buy your food now for Christmas,” Coxe declared, as the “imposition of Hitler-style autocracy on the grain trade” is the first signal of a shortage.
He is referring to the export tax on soybeans in Latin countries, the quasi-embargo on exports in Thailand and the lifetime prison sentence imposed on anyone caught hoarding rice in the Philippines, to name but a few examples.
“What we need is a David Ricardo global economy plan,” declared Coxe, referring to the 19th-century political economist credited with systematizing economics. “We have never been closer to a free-market economy, but because the agriculture sector is crippled by autocracy, export bans and punitive taxes, we are moving away from the principles of a free market.” Coxe suggests returning to the supply-and-demand equation that often balances other sectors, although, he adds, “that might be a new concept for agricultural sectors.”
His predictions can’t be ignored. Even though his clout as a leading contrarian economist has been challenged, his role in implementing and developing agricultural programs 30 years ago in conjunction with the federal government cannot be ignored.
As a result of that experience, Coxe is acutely aware of how large and how deep the subsidies to the agricultural sector go.
“We pay farmers not to produce. That’s where many of these subsidies go,” he explained. Yet, with another 100 million people joining the ranks of the middle class in China alone, Coxe questions the rationale of subsidizing a lack of food production.
He also refutes recent arguments that the upcoming food crisis is due to worldwide droughts, high fuel costs or speculators.
“There was only one drought [in 2007] and it had nothing to do with corn [or any other biodiesel-based grain],” said Coxe, who believes that arguments that drought caused the shortage are “ridiculous.”
Coxe lays more of the blame on green initiatives than weather. Last year, China, Indonesia and Thailand asked the EU to stop production of biodiesel because the redirection of soy and other grains to the production of biodiesel was hurting their diets — their people could no longer afford the high prices for commodities which are staples in their diet.
“The EU’s response was to appoint a committee to investigate the situation,” said Coxe. “And then [they] continued their biodiesel program.”
If the lack of political will in the EU was not bad enough, the matter isn’t even on the table for discussion in the U.S. Coxe points out that Iowa is the world’s second largest producer of ethanol, yet for political reasons, all three remaining presidential hopefuls are ignoring the food–fuel link. In fact, under current U.S. legislation, there “won’t be much corn used for food; it will all go to ethanol” by the year 2015, says Coxe. “Now that’s insanity.”
As for speculators, Coxe cites Martin Wolf, a Financial Times columnist, for providing solid, logical reasons as to why speculators are not the cause of increasing food costs (and, subsequently, the impending food shortage). “Global stocks keep falling while prices keep rising — a response that has nothing to do with supply and demand and evidence that speculators are not responsible.”
Coxe reminded the audience of certified financial analysts that investors can take action to hedge against this upcoming staple crisis.
He suggests that analysts start factoring food and its associated costs into their forecasts. “No matter what the asset class, assume food price inflation for the next two years. If there are major crop failures, assume five years.”
One way Coxe recommends hedging against the food shortage and related costs is to go long in companies “where it is absolutely essential for them to prevent this problem from spinning out of control.” One basic example is for investors to go long on eggs and short on restaurant stock.
“China’s growth would not stop if they lost a few of these Wall Street firms, but if corn reaches $12 and wheat reaches $20, this will stop the Chinese juggernaut,” Coxe stated. “Food is not a luxury; it’s a necessity.”
Originally published on Advisor.ca on May 1, 2008