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Back to Basics

By Puru Saxena      Printer Friendly Version
Jun 6 2008 8:52AM

Veteran clients and subscribers will recall that I have been buying natural resources since 2001. Back then, commodity prices were the cheapest ever in the history of capitalism and tangibles were not on the radar screen of many investors (they still are not). Fast forward to early 2008, prices of resources are heading to the heavens, money is starting to pour into the sector and investors are beginning to take notice of the boom. So, where do we go from here? It is my observation that the current bull-market is still in its early days and fundamentals indicate that we have a long way to go. Whether you look at food, water, energy or metals; the same story appears. Supply is failing to keep up with rising demand.

Food – Back in the summer of 2005, I recommended agriculture as a great opportunity. Since then, prices have risen but now we are beginning to see signs that agriculture production may have also peaked (Peak Food). There is mounting evidence that food production peaked in the 1990’s in several world regions. For example, South Asia has lost roughly 50% of its arable land due to soil degradation and China has seen a 27% irreversible loss of farm land. The Asian giant continues to lose roughly 2,500 square kilometers of arable land every year due to environmental issues and urbanisation! According to the UN’s Food and Agriculture Organisation, currently 36 countries face food crisis and millions are at risk of starvation. As food becomes scarce, nations are scrambling to ensure supplies and they are trying their best to protect their populations from rising prices. Traditional food exporters such as Argentina, Russia, China, India, Egypt, Vietnam and Kazakhstan have imposed export limits or introduced heavy export taxes in order to prevent domestic inflation and social unrest. Already, we have seen riots over food in Mexico (Tortilla crisis), China, Indonesia, Haiti and the Philippines. If my assessment is correct, I suspect this is simply an appetiser with the main course to follow in the months ahead.

One of the reasons why food prices are rising is due to the changing diet in China. Today, the average Chinese eats a lot more meat and raising cattle is a lot more water intensive than growing grains (Figure 1). So, as more water is used up by the livestock industry, there is less available for agriculture production!

Figure 1: Goodbye, cheap food!

Source: FAO

Those of you who feel that food output will be increased easily should take note of the fact that agriculture is amongst the world’s greatest consumers of water, which is facing its own crisis. A fascinating recent report observes that worldwide, 70% of water is consumed by agriculture. Below I present some of the highlights from this study:

  1. It requires roughly 1,000 litres of water to produce one kilogram of bread. It takes roughly 260 m3 of water to feed one vegetarian person for a year. The more meat in a person’s diet, the higher the water usage.

  2. Arable farmland is shrinking and as a result, per-capita cropland available has dropped from 0.45 to 0.25 hectares in the past 40 years.

  3. In order to increase crop yields, farmers have been using more fertilisers, pesticides and genetically modified seeds (wonderful).

  4. Water shortages are becoming a serious problem for increasing food output throughout the world as widespread urbanisation is competing for the same water.

  5. Supply of water is declining as the once mighty rivers now carry only a fraction of their former water volume and the groundwater table is steadily falling. Eleven countries accommodating almost half the world’s population currently have a negative groundwater balance.

So, you can see how water shortages are not helping our cause and may prevent us from increasing food output in a significant manner. Also, not helping us at all is the crazy “let’s burn food to produce fuel? policy being adopted in the West. Figure 2 highlights how rapidly US ethanol production has surged in the past decade and worryingly, it is only going to rise in the years ahead. In my opinion, this policy of burning energy-inefficient corn to produce fuel is a disaster and will cause serious problems in the future.

Figure 2: Washington causing food crisis!

Source: FAO

Whichever way you look at it, food prices are going to stay high for years to come. And any weather disruptions will only add to the problems by causing price spikes to unbelievable levels. From an investment perspective, I suggest that you consider allocating a portion of your funds to companies involved in agribusiness (seed, fertiliser, specialty chemicals and farm equipment manufacturers). Although, they have risen a lot in the past 2 years, I suspect they will continue to produce stellar returns in the future.

Metals – A few months ago, most analysts and investors prematurely called the end of the copper bull-market. According to these folks, such high prices were unsustainable and the copper “bubble? had popped! You may remember that I disagreed with this view and maintained my position regarding a multi-year primary bull-market for all types of commodities. Furthermore, towards the end of last year, I even highlighted copper as a great buying opportunity. Since then, the price of copper has risen significantly.

Furthermore, it seems to me as though copper is currently consolidating prior to launching higher. In case you are confused as to how copper can rise given the nasty housing recession in the US, you should take into account the fact that China uses up roughly 30% of the world’s copper and its economy is expanding at roughly 10% per annum. In other words, physical demand for the metal is robust in Asia and other parts of the developing world.

It is forecast that global copper demand will continue to rise by 4% per annum over the coming decade. This implies that the industry will have to deliver an additional 1.4 billion pounds of copper every year. This is equivalent to four big new mines every year for the next 10 years! Plus, another four new mines will be required every year over the coming decade just to replace depleted mines! I do not know about you but at least in my eyes, this seems like a gigantic if not impossible task!

On the supply side, Chile is the biggest producer of copper and its power situation does not look promising. It is likely that similar to South Africa, Chile will see power shortages this year. Roughly 40% of Chilean power is hydro and 60% is thermal (mainly from natural gas supplied by Argentina). Chilean power demand is rising by roughly 5% per annum and with a reduction in hydro-electricity this year due to less rain, thermal power generation would have to rise by roughly 20% to meet demand. This seems unlikely and a power crisis in Chile seems to be on the cards. Should it occur, Chilean copper output will be affected as the operating mines receive less than adequate power supplies. Since Chile is the key player in copper, this is a very bullish development especially with the metal trading close to its all-time high. If you have not done so already, now is a good time to invest in diversified miners with exposure to copper.

Over in the precious metals department, both gold and silver continue to correct within their ongoing primary bull-markets. Having booked our profits a few weeks ago, currently we have no exposure to this sector in our managed accounts. Should prices correct in the summer, we will re-invest in precious metals mining companies.

Puru Saxena



Puru Saxena publishes Money Matters, a monthly economic report, which highlights extraordinary investment opportunities in all major markets.  Money Matters is available by subscription from

Puru Saxena is the founder of Puru Saxena Limited, his Hong Kong based firm which manages investment portfolios for individuals and corporate clients.  He is a highly showcased investment manager and a regular guest on CNN, BBC World, CNBC, Bloomberg, NDTV and various radio programs.

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