Grain markets in turmoil

One should not forget that the grain markets are weather-related assets. This is what makes them so uncorrelated with stocks or bonds. Changes in rainfall or temperature will have a big impact on crop supplies. This weather effect is very seasonal and we are coming into the height of the seasonal effect during the key summer month of July.

Nevertheless, the impact of weather is highly variable based on the inventory of grain. Grain inventory has the same effect as any product that is storable. The inventory acts as a buffer stock. Shortfalls in production will cause producers to take from the buffer stock. Over production will lead to increases in the buffer stock. Of course, this is simple economics, but the important lesson is to know when the size of the buffer stock matters so you can determine when weather sensitivity will increase.

This year we have low buffer stocks, so prices will be more volatile to any changes in whether conditions. The International Grain Council reports on stock levels in May and the picture is grim. We will have the lowest stock levels in years. Volatility is higher for all of the grain markets this year.

The nearby wheat contract has moved by almost 20% in just a month on what is considered a bad weather year. There is excessive moisture in the US while droughts have continued in Australia and the Ukraine. We are seeing the highest prices for wheat in ten years.

Corn has raced ahead to again reach above $4 per bushel even with reports that there has been even more acreage planted for the crop. Here, the demand for ethanol tied to the high price of gasoline has placed a claim on the buffer stock. This again increases weather sensitivity. While the wheat belt has gotten too much rain, the corn belt is showing dry conditions.

The big moves in grains are uncorrelated with other commodity markets. A key feature of commodities is the low correlation across major commodity groups.