Prosperous harvest ahead -- but not for all

"Agricultural and other commodities could be heading for a 20 year bull market."

The Jakarta Post

This was the comment of one of the key speakers at a Think Tank conference in New York that I reported on last week (not in Bali as indicated by the caption!). I said I would hand over a report on agriculture as I believe it is a subject that is worth paying a lot of attention to and one that will affect everyone's pockets, perhaps quite dramatically and in different ways, in years to come.

Commodities - the big picture

After years of stagnation many commodities have seen a surge in value. Take gold for example. The Middle East oil crisis in the '70s (petrol rationing cards were actually printed but never distributed in the UK) helped to drive the price of gold to the $800 an ounce mark.

Once the crisis subsided the price slumped back to the $300s and there it remained for more than 20 years. Now it has surged past $780 and looks like it's going even higher.

This time around, oil is only part of the story. Gold is in demand not only as an alternative currency and a hedge against a falling dollar, but the physical product is in high demand, particularly in India and China. It has actually risen faster than other currencies so it is not just a US Dollar story.

Other metals, both precious and base, have been following suit, fueled by demand from the world's booming economies, particularly the fast-developing ones.

Where does agriculture fit into this?

Like gold, agriculture was not an asset to inspire excitement for a couple of decades. Improved farming techniques led to higher yields and often embarrassing surpluses. This plus better distribution kept prices down in real terms.

But the picture is rapidly changing. Yields are flattening but the demand is not. Consumption of food is growing at a rapid pace as economies expand and populations continue to grow. It is not growing in the US where the same speaker jokingly suggested consumers couldn't possibly eat any more, but in the developing world.

China again is leading the field, with milk consumption doubling in five years. Meat consumption is rising rapidly worldwide. Both the production of meat and milk requires more land for grazing and feedstock.

A Catalog of reasons to invest in agriculture The factors that will drive up the cost of agricultural products are many and include: - Shrinking arable land - Huge increase in consumption in the developing world - Corn stocks and wheat reserves are at their lowest in 25 years - Global warming will reduce yields and push up prices - Increased demand for biofuels will put further pressure on agriculture

Biofuels may take the pressure off oil

The price of oil has now burst through the $90 a barrel barrier, putting more pressure on governments and oil companies to turn to other sources of energy. One of these sources is biofuels, claimed to be cheaper and environmentally friendly.

There are now 120 ethanol plants operating in the US, mainly using corn which as I have already indicated is in diminishing supply. Yet President Bush has given a 10-year target to increase production seven fold.

Palm oil is another product the industry is turning to. As reported in the Jakarta Post on October 27, palm oil prices have gained 68 percent in the past year spurred by higher demand for the commodity in food and soaps. Add biofuel to the equation and it is not too difficult to imagine the impact on prices.

But what about the downside?

Indonesia and Malaysia make up 90 percent of global output of palm oil. So a surge in the price should be great news for the Indonesian government, landowners and entrepreneurs. But the risk is also that this will lead to even more deforestation and destruction of the environment.

When you fly north from Singapore over Malaysia next time take a look at the endless landscape of palm oil plantations below, all planted in neat rows stretching for hundreds of kilometers. Great for the Malaysian economy but that land used to be pristine jungle. Will the last jungles of Indonesia go the same way? Environmentalists, wake up before it's too late!

Will the population at large benefit from the boom or just suffer from higher prices as people compete with oil companies and big business for products from the land?

As reported in last Sunday's Jakarta Post a UN expert, Jean Ziegler, called the use of food for the production of fuel a crime against humanity. Biofuel production could be a catastrophe for the poor. Without question this is going to be a major social and political issue in the future.

Where does this leave you, the investor?

Whatever your views on the various issues, if you are a serious investor you cannot afford to ignore commodities and agriculture in particular as an asset class that should be part of your portfolio.

Apart from the merits of the asset class it is also a useful hedge against the falling value of paper money, particularly the US Dollar right now. But how do you acquire a piece of the action?

The super-rich could be buying up and developing palm oil plantations locally or large chunks of farmland elsewhere. But ordinary investors with day jobs and other preoccupations could buy shares in related companies or more practicably enter the market via mutual funds.

Schroder, Blackrock, Merrill Lynch, Castlestone, Investec, Invesco, JPMF and others have some excellent funds that embrace agriculture, gold and precious metals, natural resources and energy.

A convenient way to access them is via a portfolio bond or similar platform. This enables access to a virtually unlimited universe of funds through a single vehicle, thus keeping administrative and anti-money laundering paperwork to a minimum.

Caveat

I would not recommend venturing into the field unless you already have a sound financial base which should include ample cash reserves, adequate insurance and a core holding of financial assets.

Because, while there is no question that commodities and agriculture in particular are going to flourish and produce significant returns in the future, like other asset classes they could suffer setbacks on the way up, perhaps due to the odd global recession which might result in a drastic, albeit temporary, fall in demand.

Losses are possible in the short term, as they are with most assets, and these can hurt small investors. But for those who can take a long term view, allocating part of your portfolio, perhaps between 5 percent and 10 percent to commodities should be a sure winner.

If you don't have an investment portfolio, get out into your yard and start planting! Could be a problem though if you live in an apartment.

Colin Bloodworth is a senior financial adviser with Financial Partners.

If you have any questions relating to personal finance you may contact him at tel. 520 8099 or e-mail: colin.bloodworth @financial-partners.biz