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Capitalize on Crop Failures

By Benjamin Shepherd on August 1, 2012

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While those of us on the East Coast have been enduring a hot, dry summer, our problems are nothing compared to those in the Midwest. America’s heartland has been suffering one of the hottest, driest summers in recent memory, which has devastated corn crops and left farmers praying for rain. According to estimates, more than three-quarters of our nation’s corn crop has been impacted by the resulting drought.

And farmers aren’t likely to see relief any time soon.

Source: NOAA Climate Prediction Center

The map above tracks the range of temperatures that the National Oceanic and Atmospheric Administration’s (NOAA) Climate Prediction Center believes is most likely to occur over the next three months. The central and eastern thirds of the country are expected to continue to experience higher-than-average temperatures, as the jet stream has moved north into Canada earlier than usual this year.

The jet stream is a massive channel of rapidly moving air that brings lower temperatures and precipitation in its wake. It typically retreats into the upper reaches of North America during the summer months, but this year it appears to have made its move about a month earlier than when it typically does. In doing so, the jet stream denied the central US the critical rainfall needed during the peak growing season for corn.

But corn might not be the only crop to wither this year if we don’t catch a break in the weather. The US soybean crop has also been heavily impacted, while winter wheat, which farmers would normally begin planting next month, could also produce a smaller-than-average yield if it doesn’t get enough water during its germination period. If it isn’t wet enough for the wheat to begin sprouting before the first freeze, the crop is likely to fail. That’s extremely problematic because the winter wheat crop supplies most of the necessary input for bread flour. As such, grain prices are likely to remain elevated for much of the next year.

These agricultural woes will soon pinch the average consumer, as the price of everything from fresh vegetables, cereals, meat and dairy products will rise. It will also crimp profitability at companies such as Coca-Cola (NYSE: KO), which is heavily dependent on high fructose corn syrup as a sweetener, as well as General Mills (NYSE: GIS), which uses a variety of grains for its products. While Coca-Cola’s share price has yet to reflect the potential impact of corn prices, General Mills’ shares have already declined about 5 percent so far this year.

Potential crop failures aren’t all bad news for investors, however, since there are a couple of ways to play the run-up in grain prices.

The Teucrium Corn Fund (NYSE: CORN) holds a basket of corn futures contracts, and its portfolio has jumped more than 20 percent this year, with much of that gain occurring just since June.

The fund currently holds about $105 million in assets and has an average daily trading volume of around 100,000 shares, so it’s fairly liquid for a rather obscure specialty exchange-traded product.

One drawback to the fund is that it does carry a hefty 1.42 percent annual expense ratio. Still, that might be worth it for a more short-term trade, particularly if the corn yield turns out to be worse than expected.

Market Vectors Agribusiness (NYSE: MOO) offers a more diversified bet on poor crop yields.

But the fund has only returned about 6 percent year to date. That’s largely due to the fact that it doesn’t offer pure-play exposure to grains, instead holding such stocks as fertilizer outfit Potash Corporation of Saskatchewan (NYSE: POT), the seed company Monsanto (NYSE MON), and iconic equipment maker Deere & Co (NYSE: DE).

While severe droughts are typically one-off events, they usually portend a cycle of lower-than-average rainfall, which can last at least a few years. That will drive medium-term demand for irrigation equipment, as well as drought-resistant seed strains offered by companies such as Monsanto. So companies that specialize in these areas are well positioned for future profits.

Although droughts are definitely bad news for all consumers, we can at least offset some of our losses in the grocery aisle with gains from our portfolios.

What’s New

Only one new exchange-traded fund (ETF) launched last week, and it came to market amid a bit of drama.

Huntington Asset Advisors had been wrangling with the Securities and Exchange Commission (SEC) for more than a year to convert its open-end mutual fund Huntington Rotating Assets (HRIAX) into a new ETF. But the regulator refused to allow the conversion, so Huntington went ahead and launched Huntington US Equity Rotation Strategy (NYSE: HUSE) as a new, standalone product.

With the S&P 1500 as its investable universe, the ETF’s managers rotate between capitalization ranges and the 10 S&P economic sectors based on which ones are most attractive in terms of capital appreciation. The fund is actively managed, so rebalancing won’t occur on a fixed schedule. At present, its top holdings include Apple (NSDQ: AAPL), Johnson & Johnson (NYSE: JNJ), Pfizer (NYSE: PFE), Exxon Mobil (NYSE: XOM) and Merck & Co (NYSE: MRK). Based on its portfolio of 25 names, management currently favors large-cap stocks with a focus on health care, technology and consumer staples.

The fund charges a 0.95 percent annual expense ratio.

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