U.S. agricultural markets could be about to get a boost.
The matter hinges in part with the on-going, and acrimonious, trade negotiations between the Trump administration and China.
However, there's a good chance that the whole thing ends well and that presents an opportunity for traders to benefit from a possible rally in grain prices.
On Thursday President Donald Trump said there's a "good chance" that China and the U.S. reach agreement on a trade deal, according to a recent report in the New York Times.
At least part of the dispute stems from the large trade deficit that the U.S. has with China. The U.S. consistently imports far more goods from China than happens vice versa. Last year the U.S. imported $344 billion more goods than China bought from the U.S. That was slightly down from the $376 billion trade deficit in 2017, according to the data from the U.S. Census Bureau.
Whether such deficits are a bad thing is a matter for another column, but in this case, we know that the trade deficit has been and remains a sticking point for Trump.
At least one commentator thinks that this part of the trade deal could be solved in a repeat of an event in the 1970s.
Back in 1972 America's then arch enemy, The Soviet Union, decided to buy up an enormous amount of U.S. wheat and other grains, explains a recent report from agriculture-focused financial firm Hackett Financial Advisors. It ended a years-long period of weak grain prices in the U.S., the report states.
Now the arch enemy, at least for President Trump, is China.
"We would argue that a very similar situation is presenting itself with escalating US political chaos, the breakdown in the US Dollar hegemony and the possibility that China may buy an unimagined amount US Ag[riculture] supplies," the report continues.
Those supplies would likely include wheat, corn and soybeans, as those would help rectify the seeming trade-imbalance between the U.S. and China.
The Hackett report explains:
[...] the Chinese would not want their overall trade balance change...they would only want the trade balance with the US to change. Hence, they would, by default, reduce purchases of food and energy they make from Russia, the EU and South America for example and redirect those purchases to US based supplies.
In other words, the bilateral trade deficit could get fixed, at least partly, as China shifts its grain buying to the U.S.
The report also notes that the U.S. agriculture sector has been dogged by years of weak prices, just like it was in the years up to 1972.
A little less than five years ago corn fetched $5 a bushel versus $3.77 recently, according to data from Bloomberg. The story is similar with wheat whose prices have fallen from more than $7 a bushel to $5.14 recently over a comparable period. Soybean prices sank similarly.
The result of that prolonged period of weak prices has been that both traders and buyers of grains remain bearish. They think the situation just won't end anytime soon.
As experienced financial markets practitioners will tell you: That's usually a turning point for markets. Just as extreme optimism is often followed by a fall in prices, extreme pessimism frequently ushers in a price rally.
"The US Ag[riculture] markets remain exceedingly complacent with buyers seeing no urgency to do anything but live hand to mouth expecting prices and physical supplies to be available at whim," the Hackett report says. "That all could change overnight and cause the 6-year bear market in US Ag to come to a sudden end as it did some 47 years ago."
When it does, expect U.S. grain prices to jump.
How will we know? Watch the prices of near dated futures contracts relative to contracts that expire further in the future, the report suggests. When the futures prices for near-dated delivery are rising much faster than the contract prices for delivery far into the future, then it could be a sign that the Chinese are buying heavily, the report explains.
Smart traders should watch the market closely.
