Agriculture Investments – The Effect of Commodity Prices on Farmland Investments

Agricultural Productivity and Commodity Prices

This article covering the effect of commodity prices on agriculture investments has been produced for the purpose of providing quality reference material for the prospective Investor considering the sector, specifically for the Investor wishing to better understand to relationship and influence of commodity prices and agricultural productivity in agriculture investments.

Investors are attracted to the agriculture sector for a number of reasons; not least the undeniable fundamental trends of growing demand and contracting supply likely to drive higher asset prices and revenues in the future. Farm revenues at the very basic level are a combination of agricultural yield multiplied by commodity prices, so to better understand the performance of this asset class, we should look at commodity prices and productivity in a historical context in an effort to ascertain whether higher prices are here to stay, or part of a longer term price cycle.

At present, humankind utilises approximately 50 per cent of accessible, productive land for agriculture. Put another way, half of the Earth’s surface that is not desert, water, ice or some other such unusable space such as urbanised areas is used to grow crops.

With current emphasis firmly upon increasing productivity to meet current and future demand for food, feed and fuel from an expanding, wealthier global population, the fact that we only use half of the usable global stock of farmland indicates that we should be able to simply bring more land under agricultural cultivation through the application of well-placed infrastructure and technology investments. Unfortunately, the situation as always, is not quite as simplistic as that. In fact, the land we do not currently use for agriculture remains so because it accommodates vital natural ecosystems, is located in areas of conflict, or is simply not capable of producing commercially viable yields at current commodity prices i.e. the revenue created from the land does not cover the cost of the farming operations due to poor yields.

Before the introduction of what can be perceived as modern agricultural practices, the global population ebbed and flowed at around 4 million people, rising when access to food was abundant, and falling in times when food was hard to come by. These people existed as hunter-gatherers collecting the food they consumed for survival on a daily basis from nature, and therefore the size of the human race was intrinsically limited to a sustainable level. To put this into context, up until the introduction of modern agriculture, the global population was roughly half the present day population of London.

Then, some 10,000 years ago, modern agriculture was born, presenting us with the ability to cultivate plants and rear livestock in a concentrated fashion, enabling us to feed ourselves regardless of the vagaries of nature.

As our population continues to expand past the current level of 7 billion and towards the commonly accepted total carrying capacity of planet Earth of 13 billion, with most think tanks believing the global population will peak at around 9 billion people between 2030 and 2050, we must continue to increase productivity not only to feed ourselves, but also more recently for biofuels as oil supplies diminish and also for livestock feed to sate the desire for meat from an increasingly wealthy, urbanised population in Asia.

Initially, increases in productivity to meet growing demand have come from simply cultivating more land. But as the global shortage of suitable land continues to diminish, we have relied much more heavily on the increasing use of fertilisers, herbicides, fungicides and water to increase yield, certainly within the last 50 years.

Between 1961 and 1991, global cereal production doubled, mostly due to the introduction of nitrogen based fertilisers, commonly referred to as the Green Revolution, whereas bringing more land under cultivation played a relatively minor role. According to the Food and Agriculture Organisation of the United Nations, (FAO), this sharp 30 year spike in agricultural productivity can be broken down to reveal that 78% of the increase was due to a rise in productivity per unit of land, and 7% can be attributed to greater cropping intensity, with only 15% being a result of the development of previously unused land into farmland.

The Recent Commodity Boom

Commodities have been quite the focus in recent times, with prices rising consistently since 2000, finally peaking at record levels in 2008. Many argue that this is simply part of a long-term cycle in agricultural commodity prices, noting that the same effect was felt during the oil crisis of the 1970′s. During that time, the price of oil rose by 200%, which in-turn drove food prices as the price of oil is a significant factor in the overall cost of agricultural inputs such as fuel and fertilisers.

In the long-term though, when adjusted for inflation food prices have been in decline since the 1950′s. In fact, between 1950 and 2000, food prices in real terms fell by about 50 per cent at the same time the global population increased from 2.5 billion to 6.1 billion.

Whilst on the face of it this does seem to go against the basic economics of supply and demand, when further investigation is made things start to make more sense. Whilst it is true that demand has literally exploded – and is now being compounded through the use of ‘food land’ for the production of non-food crops for biofuels – at the same time, due to the technologies introduced by the Green Revolution, agricultural productivity has tripled, increasing at a faster pace and allowing supply to outpace demand.

This happy situation continued until around the mid 1980′s, where grain production per capita peaked at around 380 kg per person, having risen from around 280 kg per person in the early 1960′s. It is also worth noting that the majority of increased production was ultimately used for livestock feed to sate the growing demand for meat from an increasingly wealthy population. Before that the same thing happened during the great depression of the 1930′s.

The question remains for investors interested in agriculture investments, farmers and the general population, were the recent spikes in agricultural commodity prices part of a long-term pricing cycle, or was this in fact the beginning of a new type of cycle? Well, there are a number of factors to consider; firstly, the recent prices rises were by far the most extreme of recent times. Lasting over a period of 5 years, this happened to be the longest and harshest upward trend in agricultural commodity prices on record, even more so than the price spikes witnessed during the First and Second World Wars.

Also of interest is the fact that the price rises experienced in the 12 months leading up to the 2008 peaks were entirely unprecedented in their scale alone. For example, the price of the three main grain commodities rose by such ridiculously high levels that they had never before been witnessed. The prices of maize rose by 75%, wheat by 121%, and rice by 215%, all in the 12 months prior their peak in 2008.

The reality is that during the 1970′s correction in prices was achieved through increasing yield through the introduction of new technologies (the Green Revolution), allowing productivity to triple, supplies to increase and prices to ease. Again, in the 1930′s, there was ample unused land to develop, leading to the cultivation of 10′s of millions of fresh farmland, again increasing supply and easing prices. In current circumstances yield increases are smaller than population increases for the first time since the 1970′s i.e. increasing productivity that way is no longer viable, and at the same time there is very little unused land left to work with.

This perhaps indicates that higher food prices are here to stay, at least until new technologies are developed to increase productivity. This leap in technological advancement requires investment capital which in turn requires higher farm gate revenues (commodity prices) to fund, therefore it is likely that food prices will remain higher now in order to fund the change in technology required to increase production capacity and yield. The issue then becomes more one of sustainability, rather than pricing, with more concern perhaps due to precisely how we feed ourselves, and the 1 billion people already undernourished on this planet.

So, back to the most recent commodity price explosion; is the fact that prices have risen so dramatically in the most recent spike alone enough to suggest that this is in fact the beginning of a new trend or cycle in agriculture, or is it simply part of an on-going cycle that sees real assets undergo severe re-pricing every 40 or so years?

Many market pundits have pointed out that the level of pure speculation from financial traders was at least in part responsible for the 2008 peak. Indeed it is true that trading volumes increased in the run up to 2008, as interest in Maize more than doubling between early 2005 and February 2008. Looking more closely at trading volumes also tells us that whilst volume increased on the whole by 85%, non-commercial traders (speculators) doubled their share of positive or ‘long’ positions in opening interest. Trading volumes for wheat also increased by well over 100%, as did positive speculator bets.

So it is true that commercial trading of agricultural commodities boomed in the run up to 2008, it is essential to note however that this did not simply occur by chance, the reason more people were trading more commodities, can be attributed to the fact that the fundamentals driving commodity prices displayed a screaming buy signal.

By far the most reliable indicator of global demand and supply in agricultural commodities are records of global grain stores. These figures are the biggest driving force in short term agricultural commodity prices. When grain stores fall then demand outweighs supply, and grain stores rise, the opposite is true. When any commodity is in high demand and short supply, the resulting bidding war drives prices higher, especially when it is an essential commodity one cannot do without such as food.

In 2008, global grain stores bottomed hitting historic lows, and when commodity prices were at their highest, average global grain stocks fell to equate to just 18.7% of annual consumption, equivalent to only 68 days’ worth of global supply, well below the long-term average. In other words, if global production were to be significantly interrupted for two months, for example in the case of a severe drought or conflict, the whole world risked running out of food completely.

Such low global stock alerted speculators to the fact that the supply/ demand relationship had tightened, however many seemed to miss the fact that agriculture is inherently cyclical, and high prices lead to investment in production in an effort to produce more whilst prices remain high which in turn leads to an increase in production and stocks and prices falling off as the supply / demand relationship widens again and those making bets on continued high prices suffered extreme losses as an influx of product hit the market, causing prices to fall rapidly. Welcome to commodity price cycles people!

Diversification in Agriculture Sector: A Catalyst For Sustainable Economic Development in Nigeria

Agriculture involves the cultivation of land, raising and rearing of animals, for the purpose of production of food for man, feed for animals and raw materials for industries. It involves forestry, fishing, processing and marketing of these agricultural products. Essentially, it is composed of crop production, livestock, forestry, and fishing.

Agriculture is the mainstay of many economies. All over the world, the development of an enduring economy goes hand in hand with agricultural development thus, there is a need for Nigeria to exploit her various agricultural resources to full potential in order to accelerate her quest and efforts to achieving sustainable economic development.

Agriculture is considered a catalyst for the overall development of any nation; development economists have always assigned the agriculture sector a central place in the development process, early development theorists though emphasized industrialization, they counted on agriculture to provide the necessary output of food and raw materials, along with the labour force that would gradually be absorbed by industry and services sector. Much later thinking moved agriculture to the forefront of the development process; the hopes for technical change in agriculture and “green revolution” suggested agriculture as the dynamo and magic wand for economic growth and development.

The industrial revolution of the Nineteenth century which catapulted the agrarian economies of most countries of Europe got their stimuli from agriculture; the sector in recent history has also worked a tremendous miracle in countries like Mexico, India, Brazil, Peru, Philippines and China where the Green Revolution was one of the great success stories. Indeed, the importance of agriculture in any nation’s economy cannot be over emphasized, for instance, in United States of America, agriculture contributes about 1. 1% of the country’s Gross Domestic Product.

The above statistic indicated that the more developed a country is the lower the contribution of agriculture to Gross Domestic Product. Economy diversification is an economic development strategy characterized by increasing the numbers of the revenue base of an economy. The Nigerian economy is a mono-cultural economy depending on crude oil as the main source of her revenue, it is crucial that government should not keep on believing that oil provides an endless source of revenue.

As a matter of priority, Nigeria government must encourage the rapid diversification of Nigeria’s economy as this is the only sustainable way to survive the current environment of global economic uncertainty of international oil price volatility and shocks, unfavourable quota system and depletion.

Diversification in the agriculture sector is therefore suggested for Nigeria as a developing economy to ensure food and nutritional security, income and employment generation, poverty alleviation and to encourage industrialization, ease pressure on balance of payment, reliable source of government revenue and overall economic development of the country.

Prior to the political crisis of 1967-1970, agriculture’s positive contributions to the economy were instrumental in sustaining economic growth and stability. The bulk of food demand was satisfied from domestic output, thereby obviating the need to utilize scarce foreign exchange resources on food importation.

Stable growth in agricultural exports constituted the backbone of a favorable balance of trade. Sustainable amounts of capital were derived from the agricultural sector through the imposition of several taxes and accumulation of marketing surpluses, which were used to finance many development projects such as the building and construction of Ahmadu Bello University (Zaria) and first Nigerian skyscraper-cocoa house in Ibadan. The sector, which employed 71% of the total labor force in 1960, employed only 56% in 1977, the number stood at 68% in 1980, falling to 55% in 1986, 1987 and 1988; and 57% annually from 1989 to 1992, and has continued to nosedive into 2000s as the result of the neglect of the sector.

To channel itself on the path to modern development, Nigeria should examine what factors hindered the development of its agricultural sector, which was the backbone of the Nigerian economy before the era of oil boom. It should rectify the mistakes it made in over 54 years by immediately putting these strategic plans into action. The people of Nigeria can uplift themselves from poverty and distress by eradicating corruption and devoting themselves to strive for progress.

The 2020:20 initiative will keep Nigeria focused on improving their economy and combined with a significant effort to reducing food imports and to increase food production within their own country, Nigeria can witness a timely turn around in their investment. Nigeria has the necessary components in place to return to an agricultural-based economy. Research has demonstrated that a return to an agricultural economy is not only possible, but will greatly benefit the entire country of Nigeria.

To achieve sustainable economic development and to lift the dormant and continuously dwindling contribution of the agriculture sector, Nigeria needs to have some recommended pre-requisites diversification policies such as provision of financial resources to sector to get it up and functioning; a combination of government provision of subsidies, improved and high yielding seedlings and breeds for private companies and small scale farmer producing as large as 85% of the sector’s agricultural output are needed to boost the agricultural market.

There also need to revise the current import and export regulations to make it more convincing for other countries to accept agricultural products from Nigeria. It is an established fact that with the population of over 170 million, vast cultivatable farmland, a conducive climate and soil, Nigeria has the necessary productive resources required to have a strong welcome back of the agriculture sector as an engine to achieving sustainable economic development.

It is therefore plausible for Nigeria to diversify into the agriculture market in their effort to become more self-sustainable and be recognized as one of the world economic power.