By Jörg Dehning, fund manager of DJE – Agrar & Ernährung

Ukraine war: Distortions on the agricultural market

Ukraine is one of the largest exporters of wheat, oilseeds and other agricultural products. The war could reduce the harvest volume for the 2022/23 season by 30 to 40%. Far-reaching supply shortages cannot be ruled out. Shares from the agricultural sector are moving into focus. An investment theme for DJE - Agrar & Ernährung (agriculture & food).

At the latest since the invasion of Russian troops into Ukraine, a country with 33 million hectares of arable land (Germany: 11.6 million), there has been great uncertainty on the international agricultural markets. The price of wheat in particular rose significantly in the first days after the invasion. This is not surprising, as Ukraine and Russia represent about 28% of global wheat exports. In view of the currently blocked port facilities, the actual export of five to eight million tonnes of wheat from Ukraine within the next few months seems unrealistic.

The decisive factor now will be how long the conflict in Ukraine lasts. Currently, there is a shortage of diesel for the agricultural machinery, but also of employees who would have to manage the sowing that is now due. As a result, a 30% to 40% decline in harvest volume is expected for the 2022/23 marketing season. Due to seasonal factors, it will not be easy to compensate for this crop shortfall at the same time with supplies from other countries.

African countries face food crisis due to wheat shortage

Among the largest wheat importers are many populous African countries such as Egypt, Algeria and Nigeria, but also Indonesia and Bangladesh. These countries will now try to meet their additional demand in Australia, India or North America. The decisive question, however, remains to what extent the importers will be offered goods that are acceptable in price. Many tenders have recently burst. As in 2007/08, the behaviour of some countries to completely stop or limit their own grain exports is driving up prices. Besides Russia, Hungary, Bulgaria and Turkey have already announced export restrictions, partly in contravention of EU free trade rules. Serbia, an important EU supplier, also wants to stop exporting grain for the time being. All the more will depend on how the harvest volumes in the most important producing countries of the EU, but also in North America, develop in the future. After all, around 210 million tonnes, i.e. a good third of the total global production volume, are traded on the world market. It is important to know that the trade in cereals is many times (approx. 46x) the actual production.

Reduced supply of oilseeds and animal feed, especially in the organic segment

While in the case of wheat and maize there is at least a chance of some compensation from other growing regions, the dependence on Ukraine in the oilseed sector can hardly be offset. For example, Ukraine is by far the largest producer of sunflower oil with a world market share of almost 50%. Substitute products such as rapeseed oil are now increasingly in demand and have risen significantly in price. However, even for rapeseed the supply situation is already tight due to an extremely poor previous year's harvest in Canada. Against this backdrop, it can only be hoped that Canada will be able to match the production potential of previous years again this year.

The loss of production in Ukraine is likely to have an even greater impact on the organic sector. After all, 80% of organic sunflower products come from there. However, the absence of these items on supermarket shelves is the least of the problems. The oil press cake produced in processing is rather an important component of the organic feeds here. The barley grown in Ukraine is also used primarily as animal feed. Shortages of organic feed are therefore unlikely to be avoided in the coming months. Moreover, as 52% of EU maize imports come from Ukraine, Europe is heading for a feed crisis, especially as there are unfortunately too few bioethanol plants for the production of protein-rich dried fodder. Pig farming in Spain is particularly affected. It is therefore not surprising that the Spanish government itself wants to temporarily relax the rules for importing maize from Argentina and Brazil because of the supply problems. Spain, as the main purchaser of maize for animal feed, immediately urged the EU Commission to relax import controls on maize from South America (so-called genetically modified maize) as soon as possible.

Reduced fertiliser use burdens coming harvests

Whether South American farmers will be able to absorb some of the crop losses in Ukraine also depends on other important factors. The so-called "La Nina" climate phenomenon recently caused prolonged periods of drought in numerous regions of South America. As a result, the harvest estimates for soybeans there were reduced several times. Another factor that is not conducive is the heavy dependence of Brazilian farmers on Russian fertilisers. More than half of the Russian ammonium nitrate fertiliser export volume has so far gone to Brazil. Since Belarus and Russia together account for about 40% of the global potash fertiliser supply, they are now dependent on other suppliers. A Brazilian delegation was therefore recently in Canada to obtain a better supply of potash. The Canadian production volume is to be increased by another million tonnes in the course of the year. Nevertheless, the capacity adjustment will probably not be enough to bring the price level for potash fertiliser back to an acceptable level. In this country, the rising gas prices in turn make the production of nitrogen fertiliser enormously more expensive, so that some suppliers have already stopped the operation of various production plants altogether in order to avoid losses. Even though higher grain prices tend to increase the nominal yield per hectare, many farmers will try to limit their own use of fertiliser or switch to organic materials such as manure in this growing season. As a result, harvest losses of 10% and more cannot be ruled out even in Europe.

Rising energy prices and supply chain problems threaten security of supply

The effects on the end consumer must be viewed in a very differentiated manner. For example, the increased grain prices in developed countries are likely to lead only to slightly higher inflation. With a price increase of 100 euros per tonne net for quality wheat, the wheat cost per kg of wheat bread increases by just 9.3 cents (incl. VAT). In any case, it is often overlooked here that an ever smaller share of food expenditure is accounted for by the agricultural product itself. Other areas of the value chain have become much more important as a result. Critical in this context are rather the supply chain problems, energy and commodity shortages per se. Unavailable or too expensive feed will burden the production of meat and fish in the medium term. This in turn will be felt massively by the meat and fish processing industry. Slaughterhouses currently have to accept surcharges in order to obtain sufficient goods. On the other hand, the sugar and starch industry is very energy-intensive and therefore dependent on a reliable gas supply. If there are supply interruptions due to sanctions or war, supply restrictions are likely. Most of the electricity and gas contracts of the food and fertiliser industry are subject to force majeure anyway, as are logistics contracts.

The "tank or plate" discussion alone does not lead anywhere

The current turbulence on the international agricultural markets is also likely to bring the former "tank or plate" discussion back into the media spotlight. In view of the scarcity of agricultural goods and energy, however, we are in a very different starting position today than in 2007/08. The strategic course set in energy and agricultural policy is therefore more decisive than ever. In addition to solar and wind energy, biomethane from fermentation residues and manure should probably be promoted more strongly again. On the other hand, the withdrawal of EU set-aside areas by 4% points could theoretically absorb about 12% of the crop loss from Ukraine (assuming the same yields per hectare). In general, food production must be significantly supported in this environment and given absolute priority in gas supply.

Agricultural shares have further potential if the conflict continues

The positive price environment in the agricultural sector is likely to give companies in the sector considerable tailwind in some cases. For example, the shift in trade flows in agricultural goods will bring some additional business to internationally active agricultural traders in particular. In general, broad-based agricultural groups are benefiting from the current situation (Archer Daniels Midland or Bunge). In the fertiliser segment, North American producers (Nutrien and Mosaic) are the main beneficiaries of a comparatively better gas supply. Seed and crop protection producers (Corteva or also Bayer and BASF) have to calculate with higher raw material costs, but good product demand should nevertheless favour yield development. In the agricultural machinery sector (AGCO and Deere), efficiency-enhancing innovations remain the most important selling point and thus a criterion for stock selection.

Fund profile DJE – Agrar & Ernährung

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