Agricultural Commodities Awaken
Agriculture has been a sector long ignored by investors.
So much so, in fact, that the last time the largest ETF in the sector saw investor inflows, was way back in 2009.
But now, in 2016, that same ETF has seen about $162 million in investor inflows, and counts the Harvard endowment fund among its investors.
With nearly $900 million, it’s time to pay attention to the future of PowerShares DB Agriculture Fund (DBA).
The Awakening of Ag
It would appear that investors have finally noticed that agricultural (Ag) commodities markets have been priced for perfection, and that the market is in for some beautiful weather.
Perhaps they also noticed that, here in the U.S., inventories of some crops are falling despite five straight years of record production.
Thus, the sleepy Ag commodities market has been awoken.
Trading volumes of agriculture-related futures and options – according to the Chicago Mercantile Exchange (CME) – now average 1.5 million per day. That is twice the level in 2010.
La Niña Is Coming
One key reason for the increase in trading volumes is that La Niña is coming.
As night follows day, this cooling phase of the Pacific Ocean surface temperature comes after the warming of the Pacific Ocean surface called the El Niño effect.
Traders may recall that La Niña is usually associated with hot, dry weather in the U.S. Midwest. Still fresh in memory is the 2010-12 La Niña, at the end of which grain prices surged, as the worst drought in 50 years hit the Midwestern region.
And La Niñas are notorious for overstaying their welcome. They can last for well over two years – like that episode earlier this decade.
The good news is that this particular La Niña is forecast to be much milder than its predecessor. In fact, beneficial rains over the past week in the Midwest pushed grain prices down since their mid-June high.
But I expect neither cheap prices, nor the rainy weather, to persist in the long run.
The Chinese Are Hungry
Another factor is also at play in the resurgence of agricultural commodities and, as with most commodities, it’s China.
Noted commodities expert David Hightower recently explained that demand for Ag commodities, “has entered a whole new realm,” thanks to China.
Obviously, China has a lot of mouths to feed. And the Chinese have developed a real taste for pork.
The country is forecast to consume 54.6 million tons of pork this year. And even though it has the world’s largest pig population, their homegrown stock just isn’t enough – the production is expected to come in at only 53.5 million tons.
This translates to a major need for imported pork, mainly from the U.S.
These imports are the reason why U.S. lean hog futures were recently at 1.5 year highs, and prices soared 40% in the first six months of 2016.
China’s hunger has also led to soaring exports of soybean meal to China, in order to feed their massive pig and livestock population. In turn, soybean meal prices are also rising to a 1.5 year high, even though the supply of soybeans is still plentiful.
DBA ETF Specifics
It’s easy to see the renewed attraction to DBA, despite it being up only 3.5% year-to-date.
Its current portfolio has 37.5% in grains – corn, wheat and soybeans. And another 25% in meats – hogs and cattle.
It also has 12.5% in sugar and 11.11% in coffee. Both of these crops have been boosted sharply this year by two factors: poor weather in Brazil, which is the world’s largest grower of these crops, as well as a rebounding Brazilian real.
The fund also has 11.11% in cocoa (weather trouble in Ghana, the second in growth production) and 2.78% in cotton.
While we may not see a repeat of 2012, agricultural commodities have been down too far, for too long.
Weather patterns are unavoidable and inevitable, and they could give DBA a real boost into a new era of Ag wealth, turning it into another of 2016’s many reversion-to-the-mean trades.