El Niño: crop yields and commodity ETF strategies

Jul 7th, 2015 | By | Category: Commodities

Heavy rains in the US midwest delayed the harvest and pushed wheat prices higher in June. With rising certainty that a significant El Niño weather event will occur this year, what can we expect for agricultural commodity prices?

El Niño: crops and commodity ETF strategies

Wheat prices rose through June, could El Niño lead to further price rises?

El Niño forms when temperatures in the central and eastern Pacific Ocean rise above normal levels, disrupting atmospheric circulation worldwide and often causing extreme weather events. According to the Australian Bureau of Meteorology, sea surface temperatures are at levels unseen since 1997 when droughts in Australia and flooding in the United States led to billions of dollars of damage. While meteorologist are uncertain as to the strength of the weather event this year, it usually has most impact in the second half of the year so will be monitored with caution.

While each El Niño event differs in its severity and characteristics, it can be a powerful catalyst for abnormal weather conditions. The effect on crop growing conditions can be significant, altering the supply dynamics and consequently the prices of commodities. Depending on the crop and the region, the effect can be either positive or negative, with droughts decimating crop yields in some places while warmer weather wards off damaging frost in others.

Broad-based agriculture ETFs are well placed to benefit from rising soft commodity prices such as the PowerShares Global Agriculture UCITS ETF (PSGS LN) or the iShares Agribusiness UCITS ETF (SPAG LN), which offer exposure to companies involved in the agriculture business around the world. However, the differing effects of El Niño on crops means a broad-based agricultural commodities strategy may not produce the desired investment results. Based on observations from previous El Niño events, an investment strategy targeted at specific commodities could be more successful.

In their recent commodities outlook report, ETF Securities, one of the world’s leading providers of exchange-traded commodities (ETCs), commented: “We believe that should the weather event intensify, it could be a significant catalyst for price gains in sugar, cocoa, wheat and corn. Meanwhile it will be price negative for soy and coffee.”


Brazil produces 45% of the World’s arabica coffee beans and their production levels are instrumental in setting supply and prices. The warming effect of El Niño could be expected to reduce the damage frost causes to the country’s crops. In this event coffee yields would be higher and prices lower. To benefit from falling coffee prices investors could purchase an inverse (or short) product such as the ETFS Daily Short Coffee ETC (SCFE LN), which is designed to produce minus one times the daily percentage change of the Bloomberg Coffee Subindex.


According to ETF Securities: “An intensification of El Niño is likely to reduce sugar production and therefore be price positive. El Niño tends to reduce rainfall in India (the second largest producer). While the monsoon rains have started off slightly above average in India, an intensification of El Niño could hamper its progress. The largely irrigated sugar cane in India could suffer if water reservoirs are insufficiently filled in the monsoon which provides more than 70% of its annual rainfall.” Long exposure to sugar prices can be gained through the ETFS Sugar ETC (SUGA LN), the twice leveraged version, the ETFS Daily Leveraged Sugar and the euro hedged ETFS EUR Daily Hedged Sugar ETC (ESUG LN).


El Niño has historically led to reduced production in Africa due to drier weather. With the continent producing 70% of the World’s cocoa, an intensification of the weather event could drive prices higher. To benefit from rising cocoa prices an investor could purchase the ETFS Cocoa ETC (COCO LN) or the twice leveraged ETFS Daily Leveraged Cocoa ETC (LCOC LN).


With wheat prices rising strongly through late June following wet weather in the US, El Niño now threatens further production disruption. Research from ETF Securities points to production losses across the large producer countries and regions of Australia, the EU, India and China. These losses would likely be price positive for wheat and products linked to the grain such as the ETFS Wheat ETC (WEAT LN), the euro hedged ETFS EUR Daily Hedged Wheat ETC (00XS LN), and the twice leveraged ETFS Daily Leveraged Wheat ETC (LWEA LN).


The effects on corn growing would be expected to be mixed across regions with the US, China and parts of Africa facing disruption. Brazil on the other hand would likely benefit from better conditions. However, as China and the US produce over 50% of the world’s supply we can expect their conditions to have a greater effect on price. In the event that corn prices rise, long exposed products such as the ETFS Corn ETC (CORN LN), the euro hedged ETFS EUR Daily Hedged Corn ETC (ECRN LN) and the ETFS Daily Leveraged Corn ETC (LCOR LN) will likely benefit.


For the three leading producers of soy – Brazil, the US and Argentina – the timing and effect of El Niño could be positive for production levels. In the event of price declines, a short strategy would benefit, such as investing in the ETFS Daily Short Soybeans ETC (SSOB LN), which is designed to capture minus one times the daily percentage change of the Bloomberg Soybeans Subindex.


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