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How El Nino Will Impact Food Prices and Food Stocks

The El Nino weather phenomenon is in full force and will likely last until the second quarter of 2016, and it will also likely have a major impact on food prices and commodities.

The typical weather patterns are on display: California is finally seeing some rains and snows (in higher elevations) after a severe drought, while Southeast Asia is seeing drier weather. The U.S. National Weather Service says one of El Nino's key indicators -- sea surface temperatures in the eastern Pacific Ocean -- surpassed readings from 1997 levels, which was the strongest El Nino to date. The agency says El Nino will continue through this winter and gradually weaken through the spring.

Citi Research, in a note published in October, says agriculture commodities are the most exposed sector to El Nino, and that "going back to 1970 [the] mean returns for key grain commodities can be between 10 percent to 25 percent higher in El Nino years."

That's because El Nino can cause losses in agricultural production, whether it's drought that shrivels plants or floods from too much rain. Shortfalls in crop production often mean higher prices. However, because El Nino is a temporary phenomenon, any investments should be short-term rather than a buy-and-hold trade, market watchers say.

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"El Nino is something you have to constantly monitor," says Mike Ciccarelli, commodity and stock trader at Briefing.com in Chicago. "It doesn't tell you where it's aiming. But knowing how to react is important because it can cause severe [upward] price pressure."

Fickle weather. El Nino is a warming of sea surface temperatures in the equatorial Pacific, caused when trade winds weaken. The pattern has been recognized since at least the 1600s when Peruvian fishermen realized it would often peak in December. Because of the timing around Christmas, they dubbed it El Nino, or "the Christ child," in Spanish. Modern meteorologists refer to it as the El Nino Southern Oscillation.

Shawn Hackett, president of Hackett Financial Advisors in Boyton Beach, Florida, says it's important to remember that while El Nino leads to erratic weather, every event is different.

Currently, the areas affected the most by this El Nino are in Southeast Asia: Thailand, Vietnam, the Philippines, Indonesia and Malaysia, and it could have a significant impact on crops there.

Palm oil. Hackett says dry weather is hitting palm oil production, especially in Indonesia and Malaysia where most of the palm trees are grown. Palm oil is used in many items, from food to household products. So far, palm oil prices have not rallied because of abundant supplies from previous harvests, but the potential is there. The best way to play palm oil is via palm oil refiners, he says, such as Wilmar International (WLMIY). "The stock has been doing well already. That would be a great way to play palm oil," he says.

Coffee. Robusta coffee crops in Vietnam, the world's largest producer of this coffee type, could also be reduced for the coming season, Hackett says. The trees flower during the dry season at the beginning of the calendar year, and with reservoirs already low, there's little water to irrigate.

That's pushing up prices there, and if anything happens to the Arabica coffee crops in Brazil and Central America because of El Nino, coffee prices as a whole could shoot up, Ciccarelli says. That makes the iPath Bloomberg Coffee Subindex Total Return ETN (JO) a feasible short-term trade.

Rice. El Nino is curtailing Southeast Asian rice production, and countries such as the Philippines are taking the unusual step of importing rice. For investors who are interested in futures markets, the Chicago Board of Trade rice futures contract is the main way to invest. Prices have come off recent highs, and "on this break, it's a great secondary entry point," Hackett says.

Unlike other food commodities that have plentiful global supply, rice supplies are "fragile" at best, he says. "If you look at the available global rice stocks against world trade and demand, we are at or below where we were in 2007 [when prices hit a record] ... The situation is very at best fragile."

U.S. grain markets face a La Nina threat. While El Nino is reducing crop production, ample stockpiles have kept agricultural prices from skyrocketing so far. But there are signs that El Nino, as it weakens in the northern hemisphere this spring, could flip to the opposite weather pattern known as La Nina.

Jason Nicholls, senior meteorologist at AccuWeather in State College, Pennsylvania, says there are some indications this could happen in time for the U.S. growing season. La Nina weather patterns correspond with drier, warmer conditions for the Midwest and Plains, which is where much of the wheat, corn and soybeans are grown.

"Strong El Nino conditions [could] hold through Midwestern row crop sowing but then switch to a strong La Nina during northern hemisphere pollination, perhaps increasing the risk of severe drought and short crops. This was seen in 1983 and was accompanied by a large spike in corn, soybean and wheat prices," according to Citi.

Hackett has a similar assessment. "For the U.S. grain markets, La Nina is more important. La Nina is terrible for U.S. crops. They're a killer for grains. That will be what helps the markets take off. Every post-El Nino year that there's a La Nina, the grain markets rally," he says.

There are exchange-traded funds for investors who want to play a La Nina forecast. The easiest way to get exposure to corn, wheat and soybeans is the iPath Bloomberg Grains Subindex Total Return ETN (JJG), which ETF.com calls "the most stable and solid grains-focused fund." Ciccarelli says other grain ETFs are Teucrium Corn ETF (CORN), Teucrium Soybean ETF (SOYB) and Teucrium Wheat ETF (WEAT).

For investors, Hackett recommends watching forecasts in the late U.S. winter to early spring. "If it shows we're heading into a La Nina, that's your sign. The grain markets are in a lull now, but the smart buyers try to be early and buy when the market in under pressure," he says.



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