There is a strong link between excessively high food prices and social unrest. In recent years, 2008 was notable for its many food riots worldwide and in 2011, the spike in food prices contributed to fanning the flames which erupted in the form of the Arab spring. This is no new phenomenon of course, as history is littered with examples where populaces have sprung into action spurred by widespread hunger.
Some researchers are now projecting that by 2013, food prices will scale new peaks, leading to hunger for millions in the poorest nations and inciting more food riots. The research titled “The Food Crises: A Quantitative Model of Food Prices Including Speculators and Ethanol Conversion” was called one of the top 10 discoveries in science of 2011 by Wired magazine, along with the discovery of a planet that’s the closest to a twin to Earth yet. Don’t book your flights on Virgin Galaxy just yet though, it is 600 light years away.
The research comes from the New England Complex Systems Institute (NECSI), where scientists study global problems marrying complex mathematics with computation to unearth insights that could help decision makers improve policy. The institute has a growing profile and Yaneer Bar-Yam, president of the institute and co-author of the paper was an invited speaker this year at the uber-exclusive World Economic Forum in Davos.
The computer model that generates the prediction of the spike in prices was first presented September 2011 but has been recently updated with an additional 10 months of data from the United Nations Food and Agriculture (FAO) Index. The model has gained significant credibility due to its accuracy over the past 10 months, correctly forecasting a fall in prices from a peak earlier in 2011.
The fit of the model to the data is remarkable and some heavy hitters in academia have endorsed it. At its core, it is not an equilibrium model like most in economics but rather a dynamic system, which complexity scientists are using to build a branch of non-equilibrium models for economics.
The model considers many variables such as population growth, from increasing meat consumption in the developing world and adverse weather events. However NECSI find two key culprits for the increase in prices, the conversion of corn crops to ethanol (food to fuel) which is applying gradual upwards pressure on prices and investor speculation in the soft commodities futures market, which leads to spikes.
A bleak (and hungry) future?
The implications of the research are rather grim, if they indeed play out as indicated in the graphic from the update to the paper below.
The graphic from the NECSI shows the FAO Index at current prices in the black curve and adjusted for inflation in the blue curve, while the column of red dashed lines represents the timing of food riots. The dashed horizontal lines represent the price thresholds at for when food riots would occur. As you can see, the smoothed curves are trending upwards at an alarming rate with constant prices hitting the threshold in August 2013.
Professor Yaneer Bar-Yam has this to say, “When you have food prices peak, you have all these riots. But look under the peaks, at the background trend. That’s increasing quite rapidly, too.” “In one to two years, the background trend runs into the place where all hell breaks loose.”
It is hardly a pep talk and we hope that policy decision makers will improve decision making to avert as much hardship as possible for impoverished nations, where a person’s expenditure on food can be 80% or more of their income. For these people an increase in food prices is not an inconvenience but a life-threatening situation. For their sake, we hope the worst-case scenario does not come about.
Nevertheless, at the macro level across the broader spectrum of the “softs”, we expect escalating plateaus for food prices globally in the years ahead. Funds such as the DJ Agriculture ETF, offer investors exposure to the trend.
Quite separate from the new research referred to above we have our own reasons for thinking that cheap food is a thing of the past and we outlined those in detail previously
To briefly recap, demand is on the rise, while constraints on supply are becoming more pressing. A key driver of demand is population growth and the global population is forecast by the UN to rise almost 50% from the turn of the century population of 6.1 billion to circa 8.9 billion people in 2050.
Another stimulus for growth in demand comes from consumption trends in developing countries. There are vast amounts of people around the globe moving up the income curve above $2,000 per capita in countries such as China, India, Indonesia and Vietnam. There is a significant positive relationship between rising per capita incomes and higher protein and edible oils consumption as they exceed this level of income.
People tend to transition from traditional staple foods, such as rice and grains to meals which contain more animal proteins, edible oils, and processed food as they become more affluent. It is important that we recognize that, to get meat from field to table, significantly larger amounts of grains are required as feedstock,
Conversely, on the supply side there are many factors acting as constraints. Water shortages and drought, insufficient investment, climate change and increasing food security are all contributing to the challenge of adequately supplying the world’s population in an equitable manner.
From a charting perspective, following a high of US$9.63 in September, prices declined sharply before finding support at US$7.23, in December, as shown on the daily chart. Since then, a period of consolidation has emerged, which is an encouraging sign.
As evident on the weekly chart, significant support is located by the 2011 lows. To remain broadly positive on the longer-term outlook, the stock needs to base build above this region over the coming months. A break down below this support range would likely signal a more prolonged period of weakness.
In a nutshell
Our view is that the longer-term outlook for the soft commodity price complex is almost inevitably upwards for many years, although the path will be subject to shorter term volatility along the way, particularly at the commodity specific level.
Therefore we feel the agricultural products such as wheat, corn, soybean and protein that constitute the lion’s share of the DJ agriculture fund, make it a practical vehicle to gain diversified exposure to the longer-term growth in food prices without company or commodity specific risk.
We will continue to hold the DJ agriculture ETF (AIGA) in the Fat Prophets portfolio.
Fat Prophets has made every effort to ensure the reliability of the views and recommendations expressed in the reports published on its websites. Fat Prophets research is based upon information known to us or which was obtained from sources which we believed to be reliable and accurate at time of publication. However, like the markets, we are not perfect.
This report is prepared for general information only, and as such, the specific needs, investment objectives or financial situation of any particular user have not been taken into consideration. Individuals should therefore discuss, with their financial planner or advisor, the merits of each recommendation for their own specific circumstances and realise that not all investments will be appropriate for all subscribers.
To the extent permitted by law, Fat Prophets and its employees, agents and authorised representatives exclude all liability for any loss or damage (including indirect, special or consequential loss or damage) arising from the use of, or reliance on, any information within the report whether or not caused by any negligent act or omission. If the law prohibits the exclusion of such liability, Fat Prophets hereby limits its liability, to the extent permitted by law, to the resupply of the said information or the cost of the said resupply.
As at the date at the top of this page, Directors and/or associates of the Fat Prophets Group of Companies currently hold positions in AGO, AJA, AMM, AMP, ANZ, APA, ASX, BHP, BKN, BNR, BOQ, BRU, BTR, BTU, BWP, CBA, CBP, CFE, CJO, CKF, CLA, CRZ, CWN, DLS, DUE, EBT, ENV, EVN, FMG, FML, GMG, GNS, GOR, GPT, IFL, ILU, IMF, IPL, ISS, JHX, JIN, MFG, MGR, MML, MMS, MND, MNF, MTU, NAB, NCM, NMG, OBS, ORE, OSH, OTH, POS, PRG, QBE, RIO, RUL, RXL, SDG, SFR, SGP, SIV, SLR, SOC, SUN, SYD, TAM, TEL, TLS, TTN, WBC, WDC, WES, WHC, WOW, WPL, ZRL. These may change without notice and should not be taken as recommendations.