Corn prices are down 36% from their June peak, but despite the U.S. government’s claims of a bumper corn crop this year, the current dip in corn prices is just a temporary abatement, as higher demand and a potentially smaller-than-estimated total crop are poised to push corn prices higher.

The U.S. Department of Agriculture (USDA) announced yesterday (Tuesday) that the U.S. corn crop could be the second largest in history, despite savage floods that decimated corn-producing regions in the Midwest.

The USDA increased its forecast for this year’s corn harvest to 12.3 billion bushels, up from last month’s estimate of 11.7 billion bushels as “perfect” weather and an aggressive planting schedules helped farmers to recover from June’s floods. If the crop comes in as estimated, it would be just 6% lower than last year’s all-time record crop of 13.1 billion bushels.

The increased forecast helped continue corn’s ease from an all-time high of almost $8 per bushel reached six weeks ago. Corn for December delivery gained 11 cents to settle at $5.28 per bushel in late afternoon trading on the Chicago Board of Trade. The USDA report projects that corn will average $5.40 a bushel for the marketing year that begins September 1. 

But some analysts are skeptical of the sunny report and feel a bountiful harvest remains very much in doubt. The USDA estimate is 300 million bushels above average analysts estimates.

“The people I’ve spoken with, their views of the crop are certainly dramatically different than what these yields today say and what the conditions say … they’re much more cautious and much more conservative,” Rich Feltes, director of research for MF Global Ltd. (MF), told a panel discussion on the USDA report, Reuters reported.

Feltes isn’t the only one who feels the USDA report is overly optimistic after the worst flooding in 15 years ravaged Iowa and Illinois – two of the nation’s top corn-producing states.

“The thing that surprised me was the fact they increased harvested acres as a percentage of planted acres,” Tomm Pfitzenmaier, a partner at Summit Commodity Brokerage in Des Moines, Iowa told Bloomberg News. “I talk to people who tell me about how bad their drowned-out stalks are everyday.”

The Ethanol Effect

If supply cannot match the USDA forecast, corn prices will quickly be on the rise again. Those prices will also get a boost from the increased allocation for ethanol production.

The USDA report estimates that corn used for ethanol will increase to 4.1 million bushels this year, or about one-third of the total crop, from 3 billion bushels last year. The number of corn bushels diverted to produce ethanol will likely increase in the years ahead.

“It’s important to note that most of that unexpected production gain was offset by higher demand and the fact USDA pegged ethanol demand at 4.1 billion bushels this year infers to me there will be at least 4.5 billion bushels for the [2009 – 2010] campaign,” MF Global’s Feltes said.

U.S. regulators are also taking a closer look at commodities traders, causing some investors to sell for the time being, which is also putting downward pressure on current corn prices.

“Obviously the USDA has confirmed how nice the crop looks but in the final analysis we don’t think the net yields can be that high,” Gavin Maguire, analyst for E Hedger LLC, told Reuters.

“People are heading for the exits right now and asking questions later and when this ends, grain prices should begin rising,” Maguire said.

News and Related Story Links:

• Reuters:
  Ethanol demand could spark new bull market for corn

• Bloomberg News:
  Corn, Soybeans Recover From Floods on ‘Ideal’ Weather

• Forbes:
  Blue Skies Ahead For Crops

Bunge Ltd. (BG), fertilizer and oilseed producer, said it will buy Corn Products International Inc. (CPO) for $4.4 billion, or $56 a share, a 31% premium to its Friday closing price.

The purchase will help Bunge expand its product line to include Corn Products’ starches, syrups and sweeteners.

The deal will help Bunge diversify its sources of revenue with a “solid cash-flow business,” Chief Executive Alberto Weissar told Reuters. Weissar expects the deal to be closed in the fourth quarter of 2008 with a bump in earnings coming as soon as late 2009 or early 2010.

The deal comes at a time when corn prices are soaring amid a run-up in global demand.  Corn prices have surged about 75% over the past year and 17.5% since early June when flooding throughout the Midwest lowered the outlook for this year’s crop yield.

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By broadening its operations and hosting a more diverse product line, Bunge is attempting erect a barrier between itself and soaring commodities prices. The deal will also help the company maintain a healthy cash flow, as the global market for starches and sweeteners alone is growing by approximately 5% each year, according to the Chicago Tribune.

Corn Products clientele includes some of the biggest beer and food makers in the world. A deal with Bunge gives it the platform to expand its customer base as well as its own operations.

“This merger puts us in a situation where in almost any spot in the world, we can handle the larger customers,” Corn Products Chairman and Chief Executive Officer Sam Scott said in a statement.

They estimate annual cost savings of $100 to $120 million, primarily through the elimination of duplicate procurement and logistical expenses. Analysts agree that the deal makes sense.

“Our first take is that this is a good deal for both companies,” Citibank analyst David Driscoll said in a note to investors. “Corn Products gets a substantial premium to its prior closing price … and Bunge uses its very strong stock as its currency to do the deal.”

 News and Related Story Links:

• Reuters:
  Bunge to buy Corn Products for $4.4 billion

• Chicago Tribune:
  Ag products biz Bunge buying Corn Products for $4.4B

Flooding in the Midwest has devastated much of the region’s corn crop, and caused prices to skyrocket. However, major rice and wheat producers are expected to have bumper crops this year, offering some hope that food prices could soon recede.

The price of corn for July delivery jumped Monday to an all-time high of $7.60 a bushel on the Chicago Board of Trade. It was the eighth straight day of trading in which the price hit a record high. The price has already shot up 71% this year, boosting food prices worldwide and fueling what is fast becoming a global inflation epidemic.

Fortunately, there are signs that the price of rice and wheat could recede sharply in coming months and relieve some of the inflationary pressure. In fact, the price of wheat is already on the way down having fallen roughly 50% since February. And increased plantings will yield a wheat crop 8.7% larger than that of 2007, the Food and Agriculture Organization (FAO) reported.

“This improvement in supply should, in principle, help,” Hafez Ghanem, the FAO’s assistant director-general, told a news conference. “But we don’t expect to see prices going down to what they were before.”

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The United States will produce 16% more wheat than last year, making this year’s harvest the biggest since 1998, the FAO said. The European Union, on the other hand, will add 13% to its wheat crop. Global cereal output is expected to climb 3.8%.

Rice could be next in line for a price drop, as yields from Thailand, the world’s largest rice exporter, could rise 29% this year. Rough rice production will rise to 8.9 million metric tons for the May-June harvest, Bloomberg News reported. Farmers increased the amount of land devoted to the rice crop by 27% to 5 million acres to take advantage of high prices this year.

Rice futures on the Chicago Board of Trade hit a record high $25.07 per 100 pounds on April 24, and are climbed 79% in the past year, according to Bloomberg. The benchmark Thai export price for 100% grade-B white rice hit a record $1,080 per metric ton on April 24, but has since fallen to $795 per metric ton.

“The market was very quiet. Most buyers are waiting for lower prices in July when Vietnam is expected to lift its ban on rice exports,” one trader told Reuters.

Vietnam is also positioned for a bumper harvest, this year. Vietnam has lifted its ban on the signing of rice-export deals, but will only allow contracts for a limited quantity as it has capped exports of the grain at 3.5 million tons for the first nine months of this year.

The Philippines is already set to import 600,000 metric tons rice from Vietnam through a government-to-government agreement, Xinhua reported yesterday (Wednesday). The Philippines is the world’s top rice importer but has vowed to achieve 98% self-sufficiency by 2010.

India has also curbed rice exports but the nation expects to produce a record 95.5 million tons of the grain this year, an increase of 2.5% from 2007.

“The pressure would considerably ease if India, which is about harvest a bumper 2007 secondary crop, would relax its current export curbs,” said the FAO’s Food Outlook report, released last month.

Only 7% of global rice production is traded internationally, which means any government intervention in the export or import markets could have a dramatic impact on rice supply and prices.

Also, speculation among investors and consumers has run rampant in recent months, adding to political and economic pressures. As the run-up in commodities price steepened in the early part of the year, driving the price of corn and wheat to all-time highs, traders on the Chicago Board of Trade dove head first into already volatile markets.

“We have enough food on this planet today to feed everyone,” Adam Steiner, head of the U.N. Environment Program told the Associated Press, adding that the way that access to that food is being distorted by perceptions of future markets is distorting access to that food. “Real people and real lives are being affected by a dimension that is essentially speculative.”

News and Related Story Links:

• International Herald Tribune:
  UN forecasts bumper harvests in 2008

• Bloomberg:
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• Reuters:
  Benchmark Thai rice prices falls 3 pct to $795 a tonne

• Money Morning:
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• Money Morning:
  U.S. Corn Crop Could Decrease by 10% Further Fueling the Great Ethanol Debate

U.S. farmers will produce 10% less corn this year than they did a year ago, driving demand to a 13-year low and further enflaming global rhetoric aimed at diversion of the staple crop for use in biofuels.

Corn production will fall to 11.735 bushels compared with last year’s crop of 13.074 billion, Bloomberg News reported, citing a report from the U.S. Department of Agriculture.

About 89% of the corn crop had emerged from the ground as of June 8, and only 60% of the crop was in good or excellent condition. At this time last year, 98% of the corn crop was ready for harvest and 77% was found to be in good or excellent condition.

Next year’s harvest is expected to be even worse, as cold, wet weather delayed planting in the Midwest.

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“We need sun,” Christian Mayer, a broker and market analyst for Northstar Commodity Investments LLC, told Bloomberg. “The corn needs time to develop a better root system” to improve yields.

As a result, the USDA cut its yield forecast for this next year’s crop by 3.2% from 153.9 to 148.9 bushels an acre. This year’s crop is expected to yield 151.1 bushels per acre.

Farmers have also switched from planting corn to crops such as soybeans and wheat, which have proved more profitable. In the Prospective Plantings report, released March 30, the USDA said farmers would plant 8% fewer acres of corn in 2008. Producers are on pace to plant 86 million acres of corn this year, 7.6 million acres less than 2007. Meanwhile soybean acreage is expected to jump 18%, to 74.8 million acres this year.

The USDA expects corn inventories will drop to 673 million bushels come August 31, 2009, the lowest level in more than a decade.

A Global Epidemic

Diminishing supplies couldn’t come at a worse time, as food prices are skyrocketing alongside demand worldwide. Global corn consumption is expected to rise to 793.1 million tons in 2009, up from a record 778.9 million tons this year. Stockpiles are expected to fall to just 103.3 million tons next year.

Growing populations and wealthier nations have resulted in a massive upswing in food demand. Farmers have struggled to keep up and prices have skyrocketed. Corn prices, for instance, have surged 73% in the past year, hitting a record $6.73 a bushel in Chicago Monday.

According to the World Bank, worldwide food prices have risen a scorching 83% over the past three years. And the president of the World Bank, Robert B. Zoellick, estimates that the spike in food prices could push 100 million people in low-income countries deeper into poverty, as food costs cut into already meager earnings.

Rising prices have already caused rioting in Cameroon, Egypt, Indonesia, Mozambique, Senegal, Haiti and others. They’ve also translated into a $755 million shortfall in U.N.’s World Food Programme (WFP) budget, a gap U.N. Secretary General Ban Ki-moon insists must be closed as soon as possible.

The U.N. has assembled a task force in response to the problem and a special three-day summit was called from June 2 to June 4.

Hosted by the U.N.’s Food and Agriculture Organization (FAO) in Rome, leaders from 40 nations and representatives from 183 countries met to address the growing world food shortage. On June 3, the group announced that an additional $20 billion would be needed each year to combat global hunger.

The Ethanol Backlash

While the weak dollar, high energy prices, and developing economies have all taken their turns as global scapegoat for soaring food prices, nothing has taken more heat than the practice of diverting food for use in biofuels.

American farmers account for about 42% of the world’s corn production, and the fact that corn comes from the Midwest rather than the Mideast makes it a very popular alternative energy candidate, particularly with oil prices upwards of $135 a barrel.

The number of ethanol plants in the United States has increased 134, up from 50 in 1999, according to the Renewable Fuels Association.  Ethanol is expected to soon absorb 30% of the nation’s domestic corn production.

But what started out as an environmentally friendly way to reduce America’s dependence on foreign oil and pacify a powerful agricultural lobby has become a global liability with foreign nation’s lining up to take shots.

“Nobody understands how $11 to $12 billion dollar a year subsidies in 2006 and protective tariff polices have had the effect of diverting 100 million metric tons of cereals from human consumption, mostly to satisfy a thirst for fuel for vehicles,” Jacques Diouf, director general of the FAO and the summit’s host, said referring to the annual cost of U.S. subsidies to produce ethanol from corn.

However, nations like Brazil, which has a booming ethanol industry based on sugar cane, fired back.

“It offends me to see fingers pointed against clean energy from biofuels, fingers soiled with oil and coal,” Brazilian President Luiz Inacio Lula da Silva said.

“Biofuels are not the villain menacing food security in poor countries.”

The current U.S. administration continued to assert that ethanol production accounts for only 3% of the overall increase in global food prices. However, other sources including the American Farm Bureau Federation put the figure closer to 30%.

Ultimately, after three days of squabbling, the UN’s final declaration did absolutely nothing to halt, even slow, the rise of the biofuels industry. But it’s likely the debate will continue as the overall cost of food is predicted to jump 3% to 4% this year. On average, food prices increase about 2.5% annually.

News and Related Story Links:

• Bloomberg:
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• The Guardian:
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• LA Times:
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• Money Morning:
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• Money Morning:
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• Money Morning:
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Against a backdrop of soaring worldwide food prices, riots over shortages and controversies about food crops being diverted for biofuels, U.S. corn prices jumped another 7% in April, the eighth-straight monthly advance.

And the worst may be yet to come: Despite the rocketing price of corn and calls to step up production of corn-based ethanol, farmers intend to devote a bigger percentage of their acreage to more-profitable crops such as soybeans and wheat.

"Compared with soybeans and wheat, corn is still bullish as people expect the acres in the U.S. will fall following planting delays," Kenji Kobayashi, a grain analyst at Kanetsu Asset Management Co., told Bloomberg News.

The spot price for corn closed at $6.12 a bushel yesterday, having gained more than 7% for the month. Corn futures for September 2008 traded as high as $6.23 a bushel.

Here’s the key reason corn prices are popping: Corn planting is expected to drop 8.1% to 86.014 acres in the United States (still the world’s largest), according to the U.S. Department of Agriculture. Meanwhile, soybean acreage in the United States is expected to jump by 17.5% to 74.8 million acres, up from 63.6 million acres in 2007. [Please click here to read a related story on how biotech giant Monsanto is helping to battle soaring corn costs in today's issue of Money Morning].

Clean Air vs. Empty Stomachs

With corn prices escalating and increased focus on the environmental hazards of ethanol production, another conversation has entered the fray: using corn set aside for ethanol production to feed those who can’t afford to eat in the face of soaring global food prices.

Nearly a quarter of Iowa’s corn crops go to its 28 ethanol plants – and more than two dozen more are under construction or being planned, the Washington Post reported.

Nationally, the number of ethanol plants has increased 134, up from 50 in 1999, according to the Renewable Fuels Association.  Ethanol is expected to soon absorb 30% of the nation’s domestic corn production.

"As long as you keep that ethanol industry running, grain prices will be high," Bruce Babcock, professor of economics and the director of the Center for Agricultural and Rural Development at Iowa State University, told the Post. "If you didn’t have this large growth in ethanol corn, prices would be nowhere near where they are today."

To feed these stomachs, Texas Governor Rick Perry and Sen. Kay Bailey Hutchinson (R- Texas) are lobbying to ease Environmental Protection Agency ethanol mandates.

"At one point, expanding biofuels made sense for America’s energy security," she wrote in Investor’s Business Daily. "But the recent surge in food prices has forced us to adapt."

Opponents such as the Renewable Fuels Association say surging oil prices, demand for grains and meat, poor harvests around the world and a weakened dollar are to blame for soaring food prices. And that cutting corn from ethanol production will only rob Peter to pay Paul.

"The production and use of ethanol, while increasing demand for corn, is not contributing significantly to food price escalation.  It is, however, helping to keep oil prices lower than they might otherwise be," Renewable Fuels Association President Bob Dinneen said in a statement. 

News and Related Story Links:

• Bloomberg:
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• Money Morning:
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• Washington Post:
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• Renewable Fuels Association:
  RFA Opposes Waiver Request by Texas Governor