This ignored commodity is set to soar

Commodity prices have been on a tear for the past two and a half years, resuming the bull market that was briefly interrupted by the crash of 2008.

The CRB/Reuters All Commodities index measured in US dollars is up 85% since December 2008. Even in sterling, which has nudged up against the dollar during that time, the index has risen by around 70%.

What’s more, both metals and ‘softs’ – which are either grown or reared – have moved broadly in line with each other.

Yet not every commodity has been at the party. Until this month, one of the world’s vital foodstuffs had almost completely missed out on the recent surge.

But that’s now changing. Here’s what it means for investors.

The price of rice is taking off

We’re talking about rice. It’s the most important staple food for a large percentage of the world’s population. After maize, it’s the second-most widely-grown global grain. Parts of east and south Asia, the Middle East, Latin America and the West Indies depend on it.

It’s produced in more than 50 countries across the planet, though mostly in Asia. Rice production needs major capital investment. And it incurs high operating expenses. So it’s usually grown in countries with cheaper labour costs.

And as the main producing countries are also the largest customers, most rice is consumed locally. So although more than 460 million tons of rice are used every year worldwide, only about 6% of total global rice production is exported. Thailand is the biggest exporter, though the US is also a key player.

But despite this huge demand for rice, in the middle of last year it cost less than it did back in 1997 – and also in 1989. This has meant that for most of the time it’s lagged behind other major food materials by a country mile. Look at this chart:

Source: Bloomberg

The green line is the CRB/Reuters Foodstuffs index. This is a global basket of food products, priced in dollars, which we’ve indexed to a base of 100 at the start of 1998. Since then this index has more than doubled in price, mostly within the last two and a half years.

Compare that with rice. Until the start of July 2011, the price of rice – shown in white, and also measured in dollars – had underperformed the CRB/Reuters Foodstuffs index by over 40%.

But you can also see from the chart what’s been happening since. Over the last few weeks, rice prices have suddenly started to leap.

US rice supply is drying up

What’s going on? The immediate catalyst has been a report published at the end of last month by the US Department of Agriculture. This showed that this year, rice plantings by US farmers have dropped by 960,000 acres. As a result, the total amount of US land devoted to rice growing has been cut by 26% in the last 12 months.

“It’s as if a great portion of the American rice market has simply folded up its tent and closed”, Dennis Gartman, the economist who writes the Gartman Letter, tells Bloomberg.

You can’t blame those American farmers. A grim mixture of floods and droughts has made their life harder. So they’ve had to make the most of what they can produce. And the prices they’ve been able to charge for other crops such as wheat have roughly doubled in the last year or so – why grow rice when you can plant a much more lucrative crop?

Nor is the climate letting up. The rice crop in Arkansas, the country’s biggest producing state, is now under threat from a heat wave. This could damage America’s rice production even more. Add it all up, and the signs are that future rice supplies from the US will be slashed.

The global rice market is quite finely balanced between supply and demand. And the States is the world’s third-largest rice exporter. Even though exports account for a relatively small percentage of global sales, a big cutback in US supplies could drive up world rice prices a lot further. More adverse weather around the planet – which seems to be the current trend – would intensify this upswing.

Take another look at the chart. While rice prices have generally been in the doldrums for the last two decades, for a brief period in 2008 they were very perky. Indeed, rice then reached levels almost 50% higher than today as countries curbed exports due to concerns about shortages, notes Tony Dreibus at Bloomberg.

So can we expect a repeat performance in 2011? It’s possible. “The market is firming up”, says commodities broker Dennis DeLaughter. “If the heat settles in for Arkansas, it could be really nuts in the rice market.”

In fact, commodities guru Jim Rogers recently rated rice as his “trade of the decade”. He can see it “quadrupling or quintupling”, he told Merryn Somerset Webb two months ago.

And how about this? Rogers prefers rice even to gold. Gold is not only making all-time highs, “it’s on everyone’s lips”, he says. Rice is not.

More costly rice may sound like a bad thing for consumers. But farmers aren’t forced to plant the crop. The only thing that’s likely to prompt a swing back to more rice planting will be better returns for producers. And that requires higher rice prices in the meantime.

How can you invest in rice? At the moment there are no exchange-traded funds (ETFs) doing just that, though there’s talk of a ‘pure rice’ fund being set up. And as rice producers aren’t listed companies, there’s no joy here either.

We’ll keep you up to date on any developments. Meanwhile, there’s always spread betting on ‘rough rice’ futures. It’s riskier than longer–term investing, and you can lose larger amounts than your initial stake. But if you’d like to find out more – including details on how to trade – take a look at our spread betting section, which also has a list of spread betting providers. And while you’re there, if you haven’t done so already, why not sign up for our free MoneyWeek Trader email to improve your trading tactics.

Category: Market updates