Monday, August 4, 2008

Markets remain under pressure

Grain markets remained under pressure last week as improving crop conditions around the world boost expectations of a bumper harvest. Grain markets are also feeling the backwash of pressure from outside markets such as oil that up until recently had been supportive (in last week’s newsletter, we examined whether the crude oil bull was dead). Helping to offset the impact of losses in international grain markets on local prices was a sharp easing in the $A, as the local economy shows signs that it is choking on debt.

Wheat/corn spread
The widening spread between wheat and corn has been bugging me somewhat. The wheat balance sheet looks far more comfortable than the corn balance sheet, but the spread has been widening in favour of wheat – plus, corn has far more yield hurdles to jump. Emerging concerns with eastern European wheat quality could be the explanation.

Double-edged sword
Last year’s Ukrainian wheat harvest yielded a crop that was rated 75% milling quality. Reports are suggesting this year’s crop could be just the opposite – around 80% feed wheat. It’s a double-edged sword: it means more competition for corn and coarse grain markets (sorghum, feed barley). But for wheat, it keeps the world picture for milling-quality supplies tight. That resumes the watch on global wheat output and will maintain the premium for higher quality wheat.

Aussie dollar in trouble?
We expect the $A to become a supportive influence in the medium-term. Before year’s end, the RBA will be forced to slash rates, and capital will pour out of our bond markets as our interest rate advantage is eroded and international investors are exposed to unacceptable levels of currency risk. If our Asian trading partners show signs that they are not handling high rates of inflation, the $A could be in trouble.

In this week’s newsletter, we look at whether or not the local wheat market is overpriced.

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