The JSE’s broader agricultural sector is a rich, intriguing furrow for investors keen to plough money into a longer-term play on food security.
JSE stocks such as Astral Foods, Libstar, RCL Foods, Rhodes Foods, Oceana, Sea Harvest and Zeder Investments have become main flavours for food-craving investors. Other stocks such as Clover Industries, Pioneer Foods, Country Bird Holdings and Sovereign Foods have, over the past decade, been acquired and have vanished from the JSE.
Investments into companies that supply and support the farming sector can also be profitable if you catch the cycle at the right time. That was mid-2020 in the most recent case.
Stocks such as Omnia, Senwes, TWK Investments and Kaap Agri are large businesses, fundamental to the domestic agricultural sector. The profits of all have been buoyed by the rising production of soft commodities in SA and the sharp increase in farm revenues due to high international prices.
However, the core of the food sector is the soft commodities segment: the basic foodstuffs of humanity.
Maize (corn in the US), soya, sunflower and wheat are the dominant global field or row crops. They are in pretty much everything we eat, from the bread we buy, the meat, poultry and eggs we eat reared by feed alongside the oils that are part of our daily lives, including sunflower and canola. We just expect foodstuffs to be available. That has been the prevailing issue lately.
Over the decades farming practices and technology have undergone a seismic shift in production volumes of field crops.
Genetically modified seeds improve yield and are now more drought-tolerant and fight some crop diseases. Tailored nutrients and fertilisers have augmented the increase in farming output as has increasing use of technology and mechanisation. Yields have risen sharply over the decades.
In SA more than 30 years ago, maize was harvesting 1t-2t a hectare. In 2021, an average of 6t a hectare is harvested. Science and technology have fundamentally aided global food production.
Recently the rapid industrialisation and consumerism in China and its 1.4-billion population has changed the supply and demand balance.
Global climate change has also had an impact. Increasing droughts and heat waves in main producer countries such as Brazil, Russia and the US have upset the production vs consumption calculation. This was the issue over the past 12 months, causing wheat prices, for example, to soar 60%-plus.
Dietary changes in China towards more Western-style foods and processed products such as meat, breads and dairy have driven global production trends, notwithstanding the localised need in the countries where foodstuffs are grown.
The world grows about 2.3bn tons of coarse grain a year. In the 2021 season, production is meeting consumption. In recent years consumption has exceeded production, necessitating a draw-down in carryover stocks.
It is this decline in buffer stocks, aside from geopolitics and weather, that has driven soft commodities to recent highs — the fear that there is a tightness of supply to meet demand.
The US is a major corn and soya producer. Brazil is the leading soya exporter with Russia the largest wheat exporter. Commodities are now a global tradable asset class, no longer just a food.
In prior decades, Mother Nature was the main determining factor to crop price movements. Droughts made prices rise on lower production; record harvests caused a glut, making prices stagnate.
That changed in the past decade, due largely to China and the globalisation of soft commodities.
It was exactly a year ago that the current boom in global soft commodities began.
IM turned negative on the domestic food stocks back in July 2020 and positive on agriculture-related stocks. The straddle, which remains the play, was long on agri, short on food producers. It was the winning trade.
What caused this sudden surge in global soft commodities? Geopolitics was one of the key determinants.
After years of trade wars between the US and China, a breakthrough was made in agriculture. China agreed to buy tens of billions of dollars of grains and soya from the US to feed its growing consumer class and equalise the burgeoning US trade deficit with China.
In the same period, after an outbreak of swine flu in China, import demand for soya as a pig feed slumped
In late 2020 and into 2021, swine herds were repopulated. Tens of millions of growing pigs needed to be fed to meet the demand from Chinese citizens for pork. Soya imports surged to 110Mt a year. Brazil, the world’s largest soya producer, harvests 130Mt. So China is buying almost all Brazil’s output.
In early August 2020, US corn, the global benchmark and the trading level that determines local pricing on Safex, was trading at $3.06 a bushel.
A bushel, a quaint US weight measure, is 25.4kg. In 2020 the US produced 14.2-billion bushels of corn. It is the largest global producer.
Prices of all hard and soft commodities started to run on Chinese buying, re-opening of economies post-Covid and closure of businesses in April through to July 2020, leading to supply chain and logistics bottlenecks that still exist.
US corn, the basic feedstock of the world, went from $3.06 a bushel in August 2020 to $7.75 a bushel, a rise of 153% to its peak in late-May 2021. Wheat and soya rose 62% and 110% respectively.
Much of the run in corn, soya and wheat was due to huge buying by China to meet its trade agreement targets and to counter weak domestic harvests and a growing, wealthier population whose dietary tastes were changing.
Other issues were specifically country-related. Drought in Brazil hit the soya and corn production. Drought or hot weather in key wheat-growing areas such as the US, Canada and the Black Sea region also had an impact on sentiment.
This global surge in soft commodity prices translated into a boom for farmers.
Domestically, Safex yellow maize, on a year-on-year basis rose from R2,600 a ton to R3,650 a ton or an increase of 40%. Its peak was R3,750 a ton in May. It now trades at R3,468 a ton. At its low point in the record 17Mt harvest of 2017, SA yellow maize hit R1,825 a ton; it’s now 90% higher despite a 16.4Mt 2021 domestic harvest.
Such a dramatic rise creates opportunity for some and sleepless nights for others. In 2021, farmers in SA planted record maize and soya hectarage to capture the price rise.
Large input users, especially the poultry and egg sector, saw key input costs soar. There was no substitution: chicken eat maize and soya.
With a weak SA economy on one side of the equation, companies that supplied the farming sector boomed. Omnia, Kaap Agri, TWK and Senwes reported rises in profitability.
On the flip side, large input users suffered. Unable to recover higher costs through steep price increases due to a constrained consumer environment, profit margins were cut or even fell into loss.
Astral Foods as an example, and in a simplistic methodology, saw its maize input cost go up R800m over the past year.
Much of that price surge could not be offset in the poultry division by higher prices to the consumer, though some margin save was attained via production and farming efficiencies. In the six months to March 2021, Astral Foods’ profits fell sharply with headline earnings down 37%.
The September year-end lies ahead and IM is not forecasting a pleasant result.
Many of the other JSE-listed food producers were hit by constrained profitability in the second half of 2020 and into 2021 as higher input costs squeezed margins. They were unable to fully recover, from the consumer, such a dramatic and sudden rise in input costs.
The earnings of grains giant Senwes, a force in the maize belt in North West, soared, with the bottom line rising 69% as farmers spent on machinery, services and related products, buoyed by high farm revenues from booming maize, sunflower and soya prices.
As it stands, there has been a correction in US corn prices with prices down 26% from the recent high, to $5.72. Soya remains in demand on Chinese buying with wheat continuing to be firm on lower production revisions, due to hot weather, in key regions.
Safex has barely been affected by corn’s decline. The rand, from its early June strength vs the dollar, has softened 10%, offsetting some of the weakness in global prices.
Looking at the Safex futures market to March 2022 there is little current likelihood that prices will decline materially to aid the big input users.
Poultry stocks will need a maize price of R2,600-R2,700 a ton to return to a decent margin. That’s a minimum of a 20% decline from current trading levels. Such a short-term decline looks unlikely due to global issues.
Wheat is a concern locally. SA had a record 2021 harvest, but is still a net importer of about 1Mt a year.
With strong international wheat prices and a weak rand, there will have to be price increases in products such as bread, flour and pasta. Year to date wheat is ahead 12% locally.
Basically, it was best for investors to avoid being long on food producers over the past 12 months. Agricultural assets such as Kaap Agri, Omnia, TWK and Senwes have been the area of earnings growth and will remain the place to be into 2022. IM maintains its "buy" recommendations on these four stocks.
With no immediate local correction in soft commodity prices, there will probably be more weak trading updates and results from food producers. They are still battling higher input costs, increased distribution costs from higher fuel prices, alongside consumers who struggle to accept price increases in a tough economy. That means tight margins.
Until there is a material correction locally in maize and wheat, it would pay to steer clear of the JSE-listed food processors. For those determined to delve into food production, IM would recommend angling for fishing counters Oceana and Sea Harvest.
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