How prices of crude oil are dragging rates of agricultural commodities

At $96.98 a barrel currently, Brent crude prices have dropped some 12 per cent over the last 12 months. Prices of US crude, on the other hand, have fallen nearly eight per cent.

But falling crude prices seem to have inflicted more severe damage on prices of agricultural commodities, particularly corn, wheat, rice and soyabean. Prices of these commodities, barring rice, have dropped by around 30 per cent in the last one year.

There is a connection between fall in prices of crude oil and agricultural commodities. Let us look into these developments:

At over $100 a barrel, crude oil leads to search for alternative energy sources. This is what happened in the last few years. Costlier crude led to people looking for alternatives such as ethanol (mainly produced from corn or sugar) and bio-diesel (from rapeseed oil and palm oil).

Now that crude prices have dropped below $100, the interest for alternatives has waned. More importantly, producing ethanol or bio-diesel has become economically unviable.

Why are crude prices heading south? One reason is that inventory in the US is near a five-year high of 358 million barrels (as on September 25). On the other hand, with shale gas production gaining traction, supplies are also increasing. These have combined to keep crude prices on a leash.

These are other factors too that are responsible for the bearishness in prices of agricultural commodities.

For example, corn prices are currently ruling near a five-year low of $3.25 a bushel for December contracts on the Chicago Board of Trade (CBOT). Prices have plunged on projections by the US Department of Agriculture that production this year will be a record 14.39 billion bushels against 14.03 billion bushels last year. Harvest of corn has begun and indications are that the crop is in a good health.

Global production of corn is seen up at 987.52 million tonnes (mt) and corn stocks are seen at 189.91 mt (173.08 mt).

With ethanol prices dropping by over 30 per cent, its production from corn will be a loss-loss proposition. Therefore, use of corn for ethanol will drop, resulting in more corn being available for other purposes, including feed.

The case of corn will also hold good for sugar, whose prices too are seen under pressure for the same reason.

In the case of wheat, US production is seen at 2.03 billion bushel. Global production is seen up at 713 mt with ending stocks likely to be 193 mt (18 mt) globally.

In the case of wheat, heavy rain during harvest has resulted in some 12 mt of the foodgrain being turned into feed.

This, in turn, is putting pressure on corn. On the other hand, it is also affecting wheat since it has opened up the possibility of the cereal being available at cheaper rates. According to participants at a global wheat seminar earlier this month, prices are likely to rule between $5.75 and $5.50 a bushel and could even drop to levels of $5.

On Tuesday, wheat for delivery in December ruled at $4.77 a bushel on the CBOT.

In the case of soyabean, besides higher production of the crop, its competing crops such as palm oil are also ruling lower. Soyabean is ruling near a four-year low of $9.17 a bushel for November delivery on CBOT. Palm oil, on the other hand, has shed some of its losses, after falling to a five-year low, to recover at $676 a tonne.

With the US, Argentina and Brazil likely to harvest a good crop, global soyabean production is projected at a record 311.13 mt. Ending stocks are seen at 90.17 mt (82.88 mt).

Though palm oil exporters Indonesia and Malaysia have announced zero export duty and shipments have picked up this month, production glut of other oilseeds will keep prices of all vegetable oils at bay.

Lower crude prices will prove to be a dampener in diverting vegetable oils for producing bio-diesel. All these, then, point to an extended bear run in the global commodities market.