Food manufacturers have got used to low food price volatility during 2013. That all changed in the first few months of 2014 as adverse weather, disease and geopolitical concerns has affected the outlook for food production from Brazil to Ukraine. Is food price volatility about to return with a vengeance?
To recap agricultural prices have risen sharply since the start of 2014. First, the weather. Drought in Brazil has raised fears that crop yields for coffee, sugar and soybean farmers will be severely reduced, while drought in West Africa has reduced the output of cocoa. Second, disease. The coffee leaf rust disease has affected output of coffee in Central America while the Porcine Epidemic Diarrhoea virus has decimated large amounts of pigs in the US. Finally, geopolitical concerns have returned. The on-going tension between Ukraine and Russia has heightened concerns that wheat and corn exports from the region will be affected.
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To an extent all of these factors represent one off adverse events that have just happened to coincide. Putting the situation in Ukraine to one side the potential for disruption has focused attention on the power of climate change and its potential to disrupt supplies and ultimately lead to increased uncertainty and price volatility. Indeed all of the previous spikes in food price volatility seen since 2007 were at least partly caused by changing weather patterns and the appearance of drought in particular. This latest bout of volatility at least represents a continuation of this trend. The increasing likelihood of El Niño appearing later in 2014 is another factor likely to food price volatility more pronounced later in the year.
However, in comparison to previous spikes in 2007/08 and 2010/11 it has not been accompanied by volatile oil prices. Changes in the oil price before and after the financial crisis and the implementation of quantitative easing were transmitted through the food chain via the link between oil prices and biofuel demand for corn and the increased cost of transportation and fertiliser.
Another factor suggesting that the current spike in volatility will be more subdued than the past is the strong stocks position. According to the FAO global cereal stocks for 2013/14 are anticipated to increase by 15% to 582 million tonnes. The expansion in world cereal stocks would result in the global cereal stocks-to-use ratio reaching 23.9%, well above the historical low of 18.4% set in 2007/08.
Finally the de-financialisation of commodity markets over the past year or so may be part of longer term trend that could see commodity volatility be more subdued. According to research from the UN the correlation between US equities and corn, cattle and wheat fell to less than 0.05 in January, compared with almost 0.3 in 2008 with the pullback of investment banks from commodity trading and the reduced level of interest from investors in commodities in general weakening the link between commodities and other financial markets.
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Overall, volatility is likely to remain elevated during 2014 and beyond, certainly when compared with historical norms. However, unless the global stocks position deteriorates and the oil price breaks out of its vice then volatility is unlikely to return to the heady days of 2008 to 2012.