The ChoosaBroker Trading Academy
7.4. Agricultural Commodities
Agriculture was, and continues to remain, a building block of modern human civilization. The ability to harness the power of land, sunlight and water to produce food allowed us to establish settlements and create homogenous societies. Agricultural production represents money-making opportunities for not just the farmers, but also traders and investors who understand how the markets for these commodities operate. In this lesson, we will learn:
- What are Agricultural Commodities?
- Types of Agricultural Commodities
- Factors that Affect Agriculrural Prices
- How to Buy Agricultural Commodities?
- What are Livestock Commodities?
- Factors that Impact Livestock Prices
What are Agricultural Commodities?
Agricultural commodities can be broadly defined as commodities grown or produced in a farm. These can include:
- Cereal grains like corn, wheat, rice, oats, and barley
- Pulses such as soybean, dry beans, dry peas, frozen and canned peas
- Vegetables like potatoes, sweet corn, tomatoes
- Oil seeds such as sunflower, cotton, flax, canola
- Fruits like oranges, grapes, apples
- Forage crops such as Tame Hay, Timothy Hay
- Other soft commodities like cocoa, coffee and sugar
- Miscellaneous commodities such as lumber, rubber, wool
Factors That Impact Agricultural Commodity Prices
As with any other financial asset, the prices of agricultural commodities are determined by the interaction of forces of demand and supply, which, in turn, are affected by multiple variables.
- Weather – One of the main factors affecting the supply of agricultural commodities is weather. Drought conditions brought about by too little rain can diminish grain yields, reduce supply and increase prices. While, too much rain could likely delay harvest, tighten supply and also lift prices.
- Price of Inputs – The prices of various inputs required to grow crops, such as seeds, fertilizer, and fuel, can also impact supply. Lower input prices encourage producer to grow more, potentially increasing supply, and depressing prices.
- Economic Growth – Economic expansion, particularly in developing countries, encourages people to migrate from rural to urban areas in search of greater income opportunities. Increased income allows them to be more selective about the foods they consume, generally preferring foods with higher protein content.
- Changes in Consumer Dietary Trends – Changes in consumption patterns, such as low carb and gluten free diets, can decrease the demand for certain whole grains. However, these trends are typically counterbalanced by higher consumption of meat and fish, which tends to increase the demand for grains and oilseeds that are used to produce livestock feed.
How to Invest in Agricultural Commodities?
Anyone interested in investing in the agricultural space can choose from three distinct routes:
- Futures Market – Futures contracts on leading commodity exchanges offer traders and investors an easy way to speculate on price changes in agricultural products, without them having to actually buy a farm and put in all the hard work. That being said, futures come laden with significant market risks, and anyone seeking to participate in the market must do the requisite homework to reap the maximum benefits.
- Agricultural Stocks – Agri stocks are a good proxy for investors who want to avoid the elevated risk ever-present in the futures market. Many of these stocks are huge companies that have wide global reach. You can pick from agricultural chemicals companies like Monsanto, equipment manufacturers like Deere, or even distributors like Tyson Foods. Agriculture stocks are just like any other stock and can be evaluated based on price-to-earnings, dividend yield, return on equity, or whatever metrics an investor favours.
- Exchange Traded Funds (ETFs) – Agriculture ETFs can either be a collection of agri-based stocks that would cost you enormous sums to assemble on your own, or they can be a collection of commodities futures contracts. Both of these varieties of ETFs allow for diversification within the sector, thereby lowering your investment risks. The futures-focused ETFs also eradicate the risk of you having to personally take delivery of a commodity.
Livestock Commodities
Livestock are a key food source for a large section of the world’s population, making them an interesting investment product. The futures market for livestock commodities is primarily utilized by producers seeking to hedge their exposure. But the market carries sufficient volumes for retail traders to speculate.
A Livestock futures contract is a legally binding agreement that obligates a buyer to accept delivery and a seller to make delivery of –
- A standardized quantity and quality of a specific livestock product
- During a standardized period of time
- At a specified delivery point
- For a price that is negotiated at a regulated exchange.
| LIVE CATTLE | FEEDER CATTLE | LEAN HOGS | |
|---|---|---|---|
|
CONTRACT SIZE |
40,000 Pounds |
50,000 Pounds |
40,000 Pounds
|
|
PRICE UNITS |
Cents per Pound |
Cents per Pound |
Cents per Pound |
|
DELIVERY TYPE |
Physical Delivery |
Cash Settled |
Cash Settled
|
|
CONTRACT MONTHS |
Feb, Apr, Jun, Aug, Oct, Dec |
Jan, Mar, Apr, May, Aug, Sep, Oct, Nov |
Feb, Apr, May, Jun, Jul, Aug, Oct, Dec
|
|
TRADING HOURS |
Monday to Friday: 08:30 AM to 01.05 PM U.S. Central Time
|
Factors That Impact Livestock Commodity Prices
The livestock industry faces a variety of demand-supply factors that impact the value of cattle and hogs. The key fundamentals that govern prices in the livestock market are listed below:
- Demand Factors – Consumer behaviour and decisions have a significant impact on the demand for livestock. Changes in population and income distribution affect the demand for protein from meat. The other critical demand determinant is the price of complementary products. For example, if the price of poultry falls relative to both beef and pork, consumers are likely to turn to chicken, which, in turn, will curb demand for beef and pork.
- Supply Factors – A change in the price of animal feed influences livestock supply in the market. Severe weather conditions can cause supply disruptions. Colder winters often slow cattle weight gains and in some extreme cases, cause death. Poor weather conditions can also hinder the physical delivery of both cattle and hogs.
- Seasonality – Cattle and hog prices show seasonal trends, with prices regularly establishing lows during the months when animals are generally brought to market, while price highs are reached during feeding months, when the supply of animals in the market is at its lowest. For livestock market participants, a basic grasp of seasonal trends can play a major role in devising sound price forecasting strategies.
Final Few Thoughts
Virtually everyone on the planet depends on agriculture in one way or another. And with world population expected to climb to 9.80 billion by 2050, agricultural commodities are likely to play an even bigger role in the decades to come. Smart investors just can’t afford to not grab a slice of this huge market.
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