In context of the US/China trade war, agriculture could well be the area that prompts both countries to come to an agreement, according to Robin Wehbé, portfolio manager at Mellon, part of BNY Mellon Investment Management.
Technological progress is beneficial in all industries because a boost in productivity can never be a bad thing, right? Not necessarily for farmers. The rollout of new seed technology for the purpose of better nitrogen uptake, pest resistance and fungus resistance led to a decline in corn prices in 20131 because it was so successful supply began to far outpace demand.
Today, there are additional natural and political headwinds creating a whole new level of worry among farmers and investors alike. However, despite a problematic outlook, Mellon portfolio manager and senior research analyst Robin Wehbé believes there will be a reversal in the current situation.
The perfect storm
Recently, US farmers had to weather one of the wettest 12-month period on record in continental US.2 This came on top of ongoing trade issues with China, one of the largest consumers of US agricultural exports.
“It feels a bit like a perfect storm here,” Wehbé says. “Farmers really just want to do their jobs. They want to get out there, they want to plant and they want to have free trade but these tariffs are a nightmare for them.”
Usually by the time June comes around, the US has 96% of its annual crop production already in the ground but this year is different. The farming community only has roughly two-thirds of its normal acreage in the ground. This is partly due to flooding, which has left farmers in limbo as they decide whether or not to take the risk of unsuccessful yields.
Over the past two months, heavy rains left fields drenched during the key time of year for planting corn, which is especially worrisome since corn happens to be the biggest produce crop in the US by acreage.3
“When there is this impact from the floods and farmers can’t get to the fields, they don’t plant enough acreage and bottom line supply is impacted. They’re not going to come out of the harvest with as much supply as they normally do. In our opinion the result could be that they start pulling on inventories and prices start to move up,” Wehbé says.
As odd as it may sound, this is actually a good thing for rebalancing supply and demand, or as Wehbé calls it, “painful medicine for the farm belt”. With prices moving up, farmer income should be a direct beneficiary as they clear out some of the loaded inventory from when supply was outstripping demand.
Some impetus for the US to curtail negative trade implications on agriculture comes from the fact the farm belt is a key voter base for President Trump. He has already committed a US$16bn government aid package4 aimed at the agriculture community with the hopes of retaining support from farmers amidst the tariffs battle with China but Wehbé argues this package is unlikely to be enough to offset losses from reduced trade.
Key decision makers in China could also have a dark cloud hanging over their heads in that the country’s growing middle class population demands more animal protein like chicken, pork and beef, which all require higher grain intensity. All the while their own agricultural supply is inadequate to meet that rising demand.
“China could try and deploy more technology in its own farm belt but quite honestly, the US has some of the most unique agricultural dynamics, which is hard to replicate. For this reason, you could say the US makes up a portion of the bread basket for most of the planet,” Wehbé says.
Currently, Wehbé and Mellon’s global natural resources team have noticed China has pivoted to Brazil to meet most of its agricultural needs, particularly for soy beans. He believes this has created a feeling of despair among the US farming community in anticipation they could permanently lose major exporting partners.
In Wehbé’s view, the most likely scenario is that President Trump will realize he needs to reopen trade doors in order to appeal to his voting heartland for the 2020 presidential election. He also thinks China would gladly welcome exports from the US and could have appetite for as much as US$30bn in agricultural products just in time for the grand compromise President Trump would need to make farmers happy.
“There are a hundred things that can happen between here and then, but in our view that seems to be the highest probable scenario from where we sit today,” Wehbé says. “When you put those political motivations and dynamics on top of what we see as a fundamental situation turning the corner finally, we do think it sets the farmer (and investors in soft commodities) up fairly nicely for the end of this year into 2020.”
For Professional Clients only. Any views and opinions are those of the investment manager, unless otherwise noted. This is not investment research or a research recommendation for regulatory purposes.
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1 USA Today: Crop Values Drop 9.8% in 2013 as Prices Fall, 17 February 2014.
2 The Wall Street Journal: Farmers on Drenched Land Confront Tough Choice on Planting, 5 June 2019.
3 AG America: Power of 10: Top 10 Produce Crops in the US, 10 March 2017.
4 NY Times: Trump Gives Farmers $16 Billion in Aid Amid Prolonged China Trade War, 23 May 2019.