Costs of U.S. Drought Will Be Widespread, Though Some Will Benefit

August 10, 2012 /

This summer, the worst drought in decades is plaguing the U.S. Midwest, reducing the expected output of corn and soybeans, and pushing up prices for those commodities.

In the coming months, consumers will see these higher prices hit grocery stores, but companies whose profits are tied to those crops are seeing the impact on their stock prices now.

Prices for soybeans and corn have risen sharply in the last two months as the persistent lack of rain signals a weak harvest this fall. Soybeans are trading above $16/bushel, down from the $18 we saw during July, but still significantly higher than the $13-14 prices we saw just two months ago. Meanwhile, corn prices are above $8/bushel, compared to $6 two months ago, a jump of nearly 30%.

Tomorrow, the U.S. Department of Agriculture is expected to release an updated production forecast for corn and soybeans that will include a significant downward revision to its last outlook, which may lead to another price jump in commodities trading.

Corn plays a vital role in the U.S. economy. The U.S. is the largest corn producer in the world, and corn accounts for more than 90% of all U.S. feed grain production. The majority of U.S. corn production is actually used as livestock feed, while the remainder is used in various food products and ethanol. The U.S. is also the world’s leader in soybean production; soybeans are used primarily to produce consumer foods and livestock feed.

Higher corn and soybean prices have a direct negative impact on the pork, beef, and poultry industries. Companies that have already taken a hit to their stock prices include Pilgrim’s Pride Corp. (PPC) and Tyson Foods Inc. (TSN), manufacturers of consumer chicken products.

Since poultry are fed a diet of mainly corn and soybean meal, the higher costs of these inputs is expected to take a large bite out of profits. Archer Daniels Midland Co. (ADM), whose business engages in grain-handling and ethanol production largely using U.S.-produced grains, has also seen its stock price dip over the last two months.

On the other hand, some companies stand to profit from the price increases. Monsanto Co. (MON) is expected to sell more corn and soybean seeds worldwide due to the surge in the crops’ prices. And although Bunge Ltd. (BG) competes in many of the same industry segments as ADM, BG has a large business operation in South America, so it is poised to benefit from the crop price increases due to its lack of dependence on U.S. production.

The heavy use of corn and soybeans in the U.S. food supply mean it is only a matter of time before we see higher prices at the supermarket. Consumers will start to feel the pain in their food bills over the next several months, with price increases expected across a wide range of food staples, including milk, eggs, beef, chicken, and pork. Unfortunately, increased rainfall over the next month or two would have only limited benefit at this point in the growing season.

 

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