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Australian Rural Commodities Wrap

05 July 2012

NAB Rural Commodities Wrap - June 2012NAB Rural Commodities Wrap - June 2012

Commodity markets remain under pressure on weaker economic outlook, financial market volatility.
Rural Commodities Wrap published by National Australia Bank

  • Outlook for Australian farm sector weaker, but still strong as rising production prospects help to offset lower global prices
  • Lamb prices softening, to recover but remain under pressure from increased volumes at saleyards, cautious export outlook

Global financial markets have generally been characterised by a spate of mood swings in recent weeks although the generally direction for most markets has been lower. The formation of the ‘pro-austerity’ government in Greece provided some relief for markets but this was soon diminished by Spanish 10-year bond yields edging above 7 per cent, a level that triggered the bailout of other Euro-zone economies. More recently, the European Summit provided markets with a positive surprise – that the Summit actually decided something – which saw an increase in risk appetite and concomitant market reaction. While the European Summit did not find agreement on the long-term details, relief was offered to Spain and Italy with direct bank funding from the ESM. This is a positive move and should by the EU a little more time.

Economic conditions outside the Euro-zone appear to have weakened, as the spill over effect from financial market volatility on sentiment as well as reduced European imports takes hold. Economic data coming out of the US – which had been a beacon of hope through early 2012 – has generally disappointed. Employment growth has slowed and households appear rattled as income growth has not kept pace with prices while wealth levels are impacted by weaker equity markets. Similarly, industrial activity appears to have slowed in recent months. In China, the recent set of partial indicators point to an economy that has continued to soften. Recent PMI and industrial production growth readings have weakened and forward orders suggest a further softening in the coming months.

With global trade also easing, the outlook for a number of emerging market economies has weakened. In all, these recent developments have led us to revise down our global GDP growth forecasts to 3.2 per cent in 2012, with downward revisions to growth in the US, Japan, Euro-zone, Asian Tigers and India. There are considerable downside risks to our view, however, provided that politicians commit to avoiding the worst (such as a Euro-zone collapse or excessive fiscal austerity in the US), the outlook for growth should improve next year – but with lots of uncertainty and near-term market volatility on the way.

With markets very much uncertain about the prospects of a resolution of the Euro-zone debt crisis, risk appetite remains relatively subdued. In essence, this generally implies that commodity prices have weakened considerably over recent weeks. While price movements have varied by commodity; prices of commodities have generally softened over recent months. Similarly, agricultural commodities are broadly lower as the onset of risk aversion has been met with increased volumes in some markets, thereby weakening commodities not facing a near-term supply squeeze. At the same time, buyers in physical markets of some commodities are becoming increasingly cautious when faced with a more uncertain macroeconomic environment.

For the farm sector, conditions have undoubtedly eased over the past couple of months. Crop expectations have generally been revised lower while weaker global prices are likely to be impacting margins. A softening in conditions was to be expected given that record high global prices could not last forever while yields would eventually need to revert to more normal levels. Nonetheless, the outlook for the farm sector as a whole remains solid and it appears gains made over the past two years are likely to be consolidated. ABARES forecasts, if realised, would confirm this. At $47 billion, ABARES recent forecast for the Australian gross value of farm production in 2012-13 would indicate a sector still in good health while forecasts of net farm incomes are still expected to come in at more than 80 per cent higher than 2009-10 levels.

Currency Movements

The AUD remains beholden to the ongoing Euro-zone saga, with relatively large swings on the back of alternating sentiment. This pattern should continue over the near term as any real resolution to structural problems underlying the current crisis appear unlikely any time soon. As such, our near term AUD/USD range is unusually wide – between 0.9850 and 1.0250, depending on news flow. Interestingly, over recent weeks, the global commodity market has been reflecting a weaker economic growth environment yet the AUD has been quite slow to react. This divergence has been in place for some time and largely reflects solid demand for AAA assets. In a risky world where real rates being zero or negative is becoming the norm, Australian Commonwealth Government Bonds appear quite attractive, even at record low yields. This has clearly helped. Having said that, divergence in direction still appears unusual and something has to give, hence our unusually wide near-term trading range.

NAB Rural Commodity Index

Global agricultural commodity prices continued to ease through May with the NAB Rural Commodity Index falling 2.4 per cent in the month in AUD terms. Given the depreciation of the AUD/USD in the month, the fall in USD was more pronounced, with the index falling just 5.5 per cent in USD through the month. Driving the monthly result were prices falls across the board, with falls recorded in prices of beef, lamb, diary, cotton, wool and sugar. Grains prices, on the other hand, managed to lift through the month driven by concerns surrounding dryness in the US corn and soybean belt. In AUD, terms, the index is now consistent with levels seen in mid 2010, just prior to the run up in global food prices. Despite recent weakness, the index still sits above its decade-long average. Looking ahead, we anticipate that prices have likely bottomed out and we should see the commodity index strengthen through the second half of 2012, although some downside risk is evident given macroeconomic events.

NAB Farm Input Indices

Fertiliser prices continued to recover from recent lows in May with the NAB Weighted Fertiliser Index increasing 6.7 per cent in the month. Driving the monthly result were price rises for Diammonium Phosphate (up 7.1 per cent) and natural gas (up 25.7 per cent). Urea prices, on the other hand, fell 4.3 per cent, unwinding some of the gains recorded in April. Looking ahead, we expect global fertiliser prices to ease a little as demand for urea slows now that the US spring planting program is over. Attention is now turning to the South American planting program and this should help moderate any further falls in prices. Working against this, natural gas prices are expected to continue to rise as the glut that has been built up in the United States is gradually absorbed while production begins to slow. In contrast to fertiliser prices, fuel prices were down in May, with the fuel price index falling 3.1 per cent. Given the recent weakening in global oil prices, fuel prices are set to fall further in the coming months, although the fall in global prices is likely to be tempered by a decline in the AUD.

NAB Weighted Feed Grains Price

Reflecting movements in global grains markets, Australian feed prices lifted in May, with the NAB Weighted Feed Grains price lifting 4.5 per cent in the month, hitting its highest level since November last year. Driving the monthly result were price rises for barley (up 6.3 per cent), triticale (up 5.9 per cent), feed wheat (up 5.7 per cent) and oats (up 2.6 per cent). In contrast, sorghum prices were flat while maize prices were marginally lower (down 0.7 per cent). Looking ahead, prices are likely to continue firming given the slightly weaker winter crop outlook while the intense heat hitting the US corn and soybean crops should help drive some export demand for Australian feed grains.

Key Macro Drivers for Commodity Producers

Key Commodity Prices

July 2012

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