For agricultural economist Carl Anderson, the big question over the last year has been whether pogo-ing crop prices indicated a structural shift or just short-term adjustments.
“I definitely believe it's only short-term adjustments and we'll return to the fundamentals of supply-and-demand driven prices,” said the Texas A&M professor and Extension specialist emeritus, who spoke at the recent American Society of Farm Managers and Rural Appraisers annual meeting in San Antonio.
Of course, those prices must be high enough to make productive, commercial farms profitable. So, “while input costs increase — and I know lower fertilizer and fuel costs are coming on — faster than technological developments to increase production, higher commodity prices will be necessary to maintain production. Also, higher crop prices should be a consequence as we move into greater demand for the use of land for the production of biofuels.”
Having tied into a global market being driven by developing nations, U.S. agriculture will see a continuing dependence on export markets “with the exception of whatever land will be required to get us to a point of more energy independence.”
The United States has 10 percent of the world's wheat market, a very small percentage of the world rice market and 12 percent of the cotton market. With those numbers, “that means the United States won't be very influential in the price of wheat, cotton or rice. Other countries are too capable of producing a lot of those crops.
“However, for a long time, and I think it will continue, we've got 40 percent of the world's market in corn and 35 percent in soybeans. Of course, soybeans are dual-purpose as human and animal food. Corn, as it's handled now, is used mainly to produce livestock, poultry and the like. The developing nations like China will continue to demand more poultry and pork. Both require considerable amounts of grain.
“That's the background of what U.S. agriculture is facing in the future.”
Looking at global stocks, this year's wheat level has grown considerably compared to the last two years. That means “we don't have much of an outlook for higher prices on the wheat side. That's already showing up in planted acreage.”
Corn stocks have tightened a bit, but the crop is still much stronger than wheat.
Global soybean stocks are pretty good, but not overflowing. That's a good signal for farmers.
“We've had a plentiful world supply of cotton for five years and still do. That's reflected in 40-cent nearby futures. Up until 2006 we were participating in that by planting a lot of acreage and making higher yields due to improved technology. For cotton, the new genetics and such means the average production in the world is rising. China and India are well into the new, higher-producing varieties.”
What about trends in prices?
“For many years, the corn price stuck around $2 per bushel while wheat has been a bit stronger at $3, or so. Soybeans have wanted to hang in the $5 to $6 range.
“That's been true until we've run into some major bumps in the last few years. The soybean price started the trend of moving prices up. That happened because supply was tight.”
Anderson is extremely irritated with the recent spate of irresponsible speculation in commodity prices. He finds the lack of market oversight particularly contemptible.
“I have nothing nice to say about what's happened. It's been an erratic market, one that's clearly not based strictly on supply fundamentals. The speculative manipulation of the markets — the index funds, the hedge funds and swap shops — has dominated supply and demand. That neutralizes the effective use of the futures market.”
Since options came on board in 1984, Anderson and fellow economists like O.A. Cleveland have been emphasizing proper use of the tool. But now that can't be effectively taught because the futures market is “supposed to be a place where discovery of prices are fairly true to supply in time. That's not happening now. The futures market must be based on price discovery and offers price risk management. That's a rock-solid ‘must have.’”
Further, one can't do any hedging on the basis.
“An example I'm very familiar with is the west Texas basis between the official USDA price quotes and New York futures for cotton. For years, the basis has been bouncing around between 4 and 6 cents under futures. Look at graph lines and you'll see how the prices move nicely and predictably relative to stocks: when nearby futures are down, it's because stocks-to-use are up.”
Until recently, that correlation has held and prices haven't fluctuated outside an acceptable range mainly because foreign governmental programs have put a floor on the price.
But then in March 2008, “we saw supply go way up at the same time that price was jumping. That defies economics and ties back to the Commodity Futures Trading Commission where huge funds were investing billions into the commodity markets.”
Cotton is just one example of how they drove the price up, said Anderson. “The west Texas basis went to 19 cents the first week last March. That was a broken market and caused several major cotton merchants to go bankrupt — Reinhart, the fourth largest in the United States, is major to me. Many of the merchants are financially stressed because of the large margin calls that occurred.”
The merchants “may have been doing business properly and yet the margin calls came on due to the basis going 19 cents higher than the price of cotton. They weren't really hedging their cotton cash price. The futures price ran away from them, which it isn't supposed to do. The margin calls took $millions out of merchant operations and many of them didn't have a credit line sufficient to take care of that overnight. They were forced to take huge losses. We have a futures market that simply isn't functioning appropriately.”
What about the congressional committee hearings and actions since?
“I've been following that and tighter oversight is required. I think they're moving in the right direction, although too slow. I'm hopeful the right thing will be done.
“The CFTC must have a larger role in managing the speculative forces in the commodity markets. That holds true for grain and oil, too. How do you explain the price of crude oil today relative to $146 per barrel? It's mind-boggling.”
The current set-up has added an “incredible dimension” of risk in the management of agricultural commodities. That is feeding into the bankers “having to be very cautious regarding cash-flow and the ability to repay loans. Something must be done if we're to have a functioning market to set price other than just forward contracting a cash price.”
For the last two years, the futures and cash prices have been separated. Cotton and grain merchants “can no longer go out and hedge effectively to provide the producer a forward cash contract. That's what has happened. A cotton merchant might have guaranteed a price to a farmer — ‘we'll contract your cotton for 75 cents’ — and then sold the futures to protect the downside. Then, the price went up almost 20 cents while the cash price (remained stagnant)! That's an example of a broken market.
“The index/hedge funds/swap shops are the new players here. Clearly, they aren't interested in the physical crop. They're only interested in speculation and when they become such a massive part of the market, they actually move it based on money they have and not the supply-and-demand of the crop. There must be tight oversight on that.”
The oversight available “when this was going on wasn't fast-acting or capable to handle what needed to be done.”
Anderson believes we'll have “inconsistent convergence in the short-run — maybe a year or two. But I believe economic forces and regulations being developed will bring the market back in line with supply-and-demand.”
How are prices looking down the road?
“That's always difficult to predict but now it's even harder because we can't depend on the futures price looking out 12 or 24 months.”
However, using FAPRI numbers, it appears wheat has a $5 or $6 trend for the future. Corn will hover in the $4 to $5 range with a chance of making money even with $4 per bushel. Soybeans are at $12, “but I don't think that'll hold — probably $7 or $8 per bushel, although they'll still be profitable.”
As for cotton, the margin for error is extremely tight and that should mean farmers will hold back from the crop. Economically that may make sense, but Anderson said the cotton infrastructure — “warehousing, gins, and trucking — is increasingly in dire straits. Once that shuts down, it may be difficult to recover, if need be. When I'm talking to the cotton folks in such trouble, I tell them the situation is irreversible at some point. Well, we're about to that point, I'm afraid. That's terribly sad and economics can be very cruel.”
From 2004 to 2008, the nation has seen a substantial increase in real estate values, including farm buildings. There's been almost $1,000 per acre jump — from $1,270 to $2,350 — in four years.
Even when leaving out the buildings, there's been a big increase in average cropland across the nation at nearly $1,200 per acre over four years.
Pastureland values have also risen from $634 to $1,230 in the last four years. “A lot of that land is recreational and investment with folks buying land to set up hunting clubs, or whatnot. Right here in the Brazos Valley, we're seeing that. You can buy highly productive land for less money per acre than you can for land that's in mesquite, brush and a few 10-point bucks.”
As for regions, “we've looked at actual cost per acre for cultivated land. The U.S. total for 2008 values is about $3,000 per acre. What you'll notice is the cost in Mid-South states — averaging just under $2,000 per acre — which is some of the best, most productive land for crops anywhere.”
Why is that?
“Because the returns are very low in the way of profit-to-land: 3 and 4 percent. That means there are rarely outside investors, non-farmers, anxious to buy a farming operation.”
At the same time, the Northeast and Pacific regions, with a mix of crops and vegetables and nuts, have cropland values between $5,500 and $6,000 per acre.
In the Corn Belt, land is above $4,000 per acre. Why is Corn Belt land worth twice that in the Mid-South? “As we talked about earlier, corn and soybeans have good margins above cash expenses. With possible returns, the Corn Belt landowners have more room to make money with less risk.”
Corn Belt farmers tell Anderson their good corn land “is going from $4,000 to $6,000 per acre in 2008. Now, with commodity prices appearing to go down, I expect land prices have flattened and may be on the edge to dropping some.”
Percentage-wise, cropland value has run up much faster than cash rent. “That makes a big argument for having flexible cash leases. There's been a long-time argument in situations where the operator shares part of the crop with the landowner. On cash-rent it's just X amount of dollars. If a big crop is made, the operator makes a bit more money. If a poor crop results, the landowner probably makes a bit more.”