Why Food For Fuel Is A Terrible Idea

Pretty soon, corn will be more valuable than a barrel of oil. There is an article on Bloomberg Government from last month that still holds true today. (Gasp! Something written more than 30 seconds ago still holds true?) It is a sad fact that the U.S. is using corn almost as much as Saudi oil as fuel in this country. The "food for fuel" idea has been around for a long time, and it has been seen as a bailout of the farmers of the past who were unable to sell their excess corn. That time has come and gone, with the world's population approaching 7 billion later this year. In the article, senior finance analyst Vijay Sankaran talks about what exactly is going on. He goes on to say that Ethanol is impacting the various Republican presidential candidates, as some support the "bailout" of the farmers, while others, like former Utah Governor Jon Huntsman Jr. do not. Sankaran writes, "The U.S. government has supported the ethanol industry through a series of tax credits and tariffs. In addition President George W. Bush signed legislation in 2005 mandating how much ethanol should be in gasoline consumed in the U.S. The volume under this Renewable Fuel Standard was 9 billion gallons in 2008. The mandated volume will reach 15 billion gallons by 2015, the same amount of crude oil the U.S. imported from Saudi Arabia in 2009. Saudi Arabia dropped from being the top single source of crude oil for the U.S. in 2000 to the third-biggest in 2010, behind Canada and Mexico, according to the Energy Information Administration." President Bush had a good idea to try to increase jobs in the United States, and at the same time, get the U.S. off its addiction of foreign oil. However, this idea has a terrible side affect. It has caused corn prices to soar, as evidenced by this chart. Using food for fuel is a terrible idea, as it constrains one commodity to try to replace another. We have seen the rise in corn prices affect everything we eat. Meat has become more expensive, as feed for cattle has become more expensive. This is evidenced by both live cattle and feeder cattle. As the world's population continues to grow, and corn supplies continue to be even more constrained, we will see prices rise. It's basic economics. The law of supply and demand. This has never been more precedent than what we are seeing in the fertilizer names, like Potash POT, CF Industries CF and Mosaic MOS. These companies are seeing record earnings, thanks in part to farmers' demand for fertilizers. When Potash released earnings, President and Chief Executive Officer Bill Doyle said, “The continuation of strong fertilizer demand combined with the limitations of global production, especially in potash, resulted in tight fertilizer markets and rising prices for our products. With farmers committed to increasing yields and capitalizing on the unprecedented economic opportunity, we worked to keep pace with growing demand, which resulted in a record quarter for our company. We believe our ongoing investment in expanding potash operational capability is playing an integral role in the world's food story, and we demonstrated our increased ability to deliver – for our customers and our shareholders.” "[U]nprecedented economic opportunity." Those three words should ring echoes in Washington, and unfortunately, they are not. It is one thing to try to help your country's exports, which is the job of any President. It is completely another to do it haphazardly. When it is hurting everyone, especially the lower and middle classes, it does net no economic good. The Obama administration has tried to move towards electric cars and furthering this process, but unfortunately, mass production and wide spread adoption of electric cars is years away. Most Republicans back the ethanol tax credit and subsidies provided to farmers, as that is where the majority of their constituents are based. Nebraska. Iowa. Idaho. Until the food for fuel mantra changes in Washington, inflation will only continue to hurt those that can barely bear the brunt of it now. ACTION ITEMS:

Bullish:
Traders who believe that the food for fuel mantra will continue might want to consider the following trades:

• Invest in names like Potash, Mosaic CF Industries and others that provide fertilizers for farmers.

• If investors are not comfortable with single equity exposure, consider PowerShares DB Agriculture Fund DBA or Market Vectors Agribusiness ETF MOO.

Bearish:
Traders who believe that this will end sooner rather than later may consider alternate positions:

• If the Obama administration or any other administration decides to end the tax credits, corn could drop precipitously. These names will be hit sharply.
  
  

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