Itaú BBA - Agricultural Prices Go Up

Commodities Monthly Report

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Agricultural Prices Go Up

May 4, 2016

We expect additional gains in crude oil prices and lower prices for iron ore.

For the full report, see enclosed file

• Commodity prices continued to climb in April, still driven by a favorable macro environment. Prices for crude oil, iron ore, corn and soybeans rose more sharply due to specific factors.

• We revised upward our forecasts for agricultural commodities, incorporating the outlook for lower inventories during crop year 2016-17.

• We expect additional gains in crude oil prices (up to USD 55/bbl by YE16) and lower prices for iron ore.

Commodity prices continued to rise in April, climbing 12%, as measured by the Itaú Commodity Index (ICI). Once again, the global macro environment and specific factors contributed to increases in all three index components: Agricultural (7%), Metals (12%) and Oil-related (19%).

Hikes in metals and energy have stood out. There were also noteworthy gains for soybeans and corn during the month, as market attention is drawn to the likely decline in inventories during crop year 2016-17, as well as greater weather-related risks.

We revised upward our forecasts for agricultural commodities, recognizing that recent gains reflect bullish fundamentals. The net effect is an increase of 6.1 pp for the ICI-Agriculture and an increase of 2.3 pp in the overall ICI by year-end. Changes in the scenario:

- Soybeans: to USD 10.0 from USD 8.8/bushel;

- Corn: to USD 4.0 from USD 3.75/bushel;

- Wheat: to USD 5.10 from USD 4.85/bushel;

- Cotton: to USD 0.62 from USD 0.615/lb.

The recovery in oil prices is sustainable and likely to continue. Prices have advanced and are above USD 45/bbl, notwithstanding the failure of negotiations between the largest exporters, as the decline in U.S. output is reducing excess supply. According to our estimates, the seasonally-adjusted global oversupply fell by half in 1Q16 compared with 4Q15. This process is set to continue in 2Q16, so that the global balance will be in equilibrium by 3Q16. Our forecast for Brent crude is USD 55.0 by YE16.

On the other hand, iron ore prices are set to fall. Recent price increases were driven by a pickup in heavy construction in China amid low inventories in the steel supply chain in the country. The inventory effect is temporary, and the improvement in the construction sector is not enough to reverse excess supply of seaborne iron ore. In fact, inventories of raw material (including iron ore) are already on the rise.

The combination of higher oil prices, lower iron ore prices and stable agricultural-commodity and base metal prices implies that the ICI will rise 6% by year-end from its current levels in our base-case scenario.

Oil: No agreement. So what?

April moves showed that price recovery does not depend on an agreement between the major exporters. The meeting in Doha among major crude exporters ended without a deal to freeze output. However, the initial decline (-6%) was quickly reversed, and prices tested new highs for the year two days after the event.

Recent data continues to show that the global balance is marching toward equilibrium. U.S. production is falling (see chart), and global demand is advancing in line with the medium-term trend. With these two factors, oversupply will be finished as early as 3Q16.

Given market developments, the decision by Saudi Arabia and its allies to not freeze supply is understandable. The current strategy is working: capital expenditures in the industry declined on a global level, reducing future supply. The process to end excess supply is on course.

We expect prices to go up further, as oversupply in the market ceases to exist by mid-year. Brent crude will be trading at USD 55/bbl by YE16, according to our estimates.

Iron ore: Prices may drop soon

Running counter to most forecasts (ours included), iron ore prices continued to rise in April. Prices were at USD 56/ton in early April and reached USD 70 on April 21. Although prices receded to USD 66 later on, the gain accumulated during the month was 18%.

The hike follows an unexpected increase in demand from China, due to a recovery in real estate and infrastructure investments. Both sectors account for more than 50% of steel demand in China.

The impact on prices was overblown because it took place when inventories of the entire steel production chain were at low levels (see chart). As inventories of raw materials (including iron ore) are already recovering, iron ore prices may start a downward move soon. The decline would be in line with global oversupply of seaborne iron ore.

We forecast prices to drop to USD 42/ton by YE16.

Corn and soybeans: Outlook for falling inventories in 2016-17, even without losses in South America

Wheat and corn prices rebounded after the release of the report on planting intentions on March 31. Soybean prices continued to advance. Futures contracts for year-end delivery of corn, soybeans and wheat went up 7.2%, 9.0% and 2.4%, respectively.

The hike may have been supported by the macro environment, but the main driver was the deterioration in the supply outlook.

Recent weather conditions were unfavorable for crops in South America and will reduce production of winter corn in Brazil and the soybean harvest in Argentina. The impact of the Argentina situation on soybean prices may be offset by strong shipments from Brazil. However, lower corn production in Brazil will likely result in regional scarcity during the whole year – meaning hefty premiums over international prices.

Outlook for lower supply of corn and soybeans in the 2016-17 crop. Planting of the next crop is advancing under favorable conditions in the U.S., and risks (e.g., drought) are in line with historical standards. Still, a return to normal yield levels after two very favorable crops would cause production of both commodities to fall. Furthermore, the next crop in South America will likely be harmed by the La Niña weather pattern.

Global demand for corn is expected to expand 2%, while global demand for soybeans tends to rise 4%. 

Combining the supply and demand outlook, we expect corn and soybean inventories to decline during crop year 2016-17, even without incorporating the possible impact of La Niña in South America.


We revised upward our forecasts for corn (to USD 4.0 from USD 3.75/bushel), soybeans (to USD 10.0 from USD 8.8) and wheat (to USD 5.10 from USD 4.85), assuming lower product availability in the next crop year. 


Artur Manoel Passos
Ivan Lasaro


For the full report, see enclosed file

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