One of the reasons why I expect China to sail smoothly through the current wave of global unrest is due to the country’s successful long-term strategy for producing and stockpiling grains. It is a common adage that civilization is just a few meals away from anarchy, and in fact many major social uprisings have had their roots in food shortages.
Beginning in 2004, a year of good harvest and price decline, the Chinese government implemented price floors for wheat and rice by directly purchasing grains from domestic farmers. The purpose of the price floor was to give an incentive for farmers to continue farming so that the country had a secure domestic food supply. Since then, China has had abundant harvests for seven consecutive years, and despite surplus supplies, the government continued to buy grains from farmers.
What’s more, the Chinese government has raised its purchased price floors every year to adjust for inflation and rising wages. Government purchase price for wheat has gone up steadily, climbing some 50% since 2006. As a result, China has accumulated huge stockpiles of grain in order to stock up in the case of bad weather conditions like we had last year.
Although China is a major wheat and rice producer, the country lags in production of animal feed grains such as corn and soybeans. As Chinese consumption of meat increases, China’s demand for feed grain has increased substantially. Therefore, China relies on the U.S. and Brazil to meet increasing demand for soybeans. In addition to soybeans, China imports high-quality spring wheat from the U.S. in order to make better-tasting bread and pastries.
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As a result of the importance placed on food security by Beijing, I do not think that China will be aversely affected by the continued turmoil in the Middle East, but I do think that the following grain and fertilizer plays that are traded in the U.S. market will continue to benefit from Beijing’s long-term food strategy.
#1 – Mosaic
Shareholders are fighting to stop the plan of the estate of the late Cargill heiress to sell the 64% controlling stake in U.S.-based Mosaic (NYSE:MOS). However, I think those shareholders should step back and let the company float that controlling stake considering that this was one reason why the stock historically traded at a discount to Potash Corp. (NYSE:POT). It is also conceivable that BHP Billiton (NYSE:BHP) will try to buy Mosaic upon the selling of this controlling stake, though I wouldn’t hold my breath here.
Cargill wants to exchange 179 million Mosaic shares for Cargill stock held by Cargill investors. The other 107 million Mosaic shares will be swapped for Cargill debt held by third parties. Mosaic is the second-largest potash producer in the U.S. and a major exporter of food nutrients to the developed worlds, and an increase of the float should benefit the company’s valuation in the market.
#2 – Potash Corp.
Canada-based Potash Corp of Saskatchewan (NYSE:POT) is viewed as a national treasure in Canada — especially considering that the recent bid by BHP for the company was banned by the local government. The company is a valuable holding, considering that it has a strategic role in assuring the world’s food supply as the biggest potash producer in the world.
The stock went up as the BHP deal was rejected, reflecting the huge run-up in food prices in the second part of 2010. In early 2011 we’ve seen record-high food prices — as well as the resulting food riots in North Africa — and amidst this backdrop, the future for Potash Corp. has never looked brighter.
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The reason: Corn prices have increased 77% in the past year, soybeans advanced 40% and wheat rallied 43%. Many potash firms are raising contract prices for potash in China as much as 14% just in January to as much as $400 per metric ton. China is the world’s biggest consumer of the fertilizer, and the nation is firmly in the driver’s seat of growth in global demand.
With food prices at a record but Potash Corp. still trading well below its record price seen in 2008, there may be more upside here.
#3 – Syngenta
Switzerland-based Syngenta (NYSE:SYT) is primarily engaged in developing and selling seeds and crop protection nutrients. The record surge in food prices is driving demand for more and better seeds. Revenue for 2010 was up 6% from last year to $11.6 billion, and management has decided to boost the share price by spending $850 million to buy back shares in 2011.
Emerging markets — the largest of which is China — now account for almost 50% of the company’s total sales. I expect this ratio of sales to emerging markets to increase as they have decidedly more positive demographics than the developed world.
As protein consumption rises with incomes, both seed and fertilizer consumption also increase as they are key inputs for the production of more meat. Syngenta is a typical example of a developed market-based company that drives an increasingly large amount of sales from the developing world.
I think investors should focus on similar stocks in the next 10 years to escape the flat returns that most developed markets saw in the past decade — and are likely to see again in the next 10 years.