Oil price volatility impacts not only the economic health of a country but also influences the global economy. Over time, major oil-producing nations, especially the United States and the members of Organization of the Petroleum Exporting Countries have played key roles in striking a balance between global supply and demand for crude oil.
Governmental policies regarding the use of alternative sources of energy, large scale use of electric vehicles and public transportation, sluggish global economic growth and oil trade policies are certain factors influencing oil demand. Availability of oil reserves, highly specialized technology and advanced machinery, proper finances, skilled labor force and governmental incentives are some factors influencing oil supply. Also, speculative trading in crude oil influences its prices.
Crude Oil Price Scenario
Crude oil prices have been volatile over the last year. West Texas Intermediate crude oil was traded at $43 to slightly above $54 per barrel. Brent crude oil was priced $45 to $53 per barrel over the same period.
The U.S. crude oil prices have started rebounding after major refineries in the Gulf of Mexico restarted their operations, which were hit by Hurricane Harvey. Additionally, crude oil prices are anticipated to rise in the event of any military conflict in Northern Asia, which will likely disrupt the region’s crude oil production and refining capacity.
Sharp rise in oil prices can dampen global economic growth while a fall can trigger or stimulate growth. A number of industries, including transportation, farm machinery, airline, chemicals and many more, are directly or indirectly influenced by oil price volatility. Below we discuss how oil price volatility impacts the agriculture industry.
Relation Between Crude Oil Volatility and Agriculture Industry
Rise in crude oil prices will increase cost of producing agricultural products and hence, will be followed by hike in food prices and vice versa. Increasing use of energy-driven machinery in farming, application of fertilizers requiring oil as input, transportation of inputs for farming and sending agricultural products to end-markets are primarily responsible for any change in cost of producing agriculture products when oil price fluctuates.
Another situation worth mentioning here is the rising use of bioenergy, which are obtained from biofuels. Biofuels can be produced from agricultural crops, wood and waste material. Liquid biofuels like ethanol and biodiesel are being increasingly used in industrial processes and vehicles. Ethanol is derived mainly from sugar-rich products like sugar cane and sugar beet or from products with high starch content like corn and wheat. Biodiesel is mainly sourced from soybean, coconut, palm and other oils.
Countries like Brazil and the United States are prime producers of ethanol. Ethanol is used as a fuel additive to reduce vehicle emissions from gasoline in these countries under government regulations. These countries have been promoting the use of fuel-flex vehicles. Biodiesel is primarily produced in the European Union. Rise in crude oil prices increases the demand for biofuels and hence, the demand for the prime feedstock (like corn, sugar, wheat) rises.
Impact of Oil Price Volatility on Four Agriculture Stocks
Below we discuss four agriculture stocks that currently carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Rise in oil price is likely to positively influence these stocks, mitigating the adverse impacts of higher cost and expenses. The impact of oil price decline seems restricted.
Cosan Limited (CZZ - Free Report) – This Brazilian company is the world’s largest producer and processor of sugarcane. It is also the largest ethanol producer in Brazil and one of the largest producers in the world, besides being the largest exporter of ethanol. To capitalize on the growing sugar and ethanol demand, the company has been taking initiatives to expand its existing facilities and develop Greenfield projects as well as improve its services.
For crop year April 2017-March 2018, the company anticipates ethanol volume production to be 2-2.3 billion liters while volume of energy sold is expected to be in the range of 2-2.2 million MWh. Currently, the stock seems undervalued with forward P/E multiple of 4.3x compared with 20.9x for the industry it belongs to.
Monsanto Company (MON - Free Report) - The company is one of the leading manufacturers of crop seeds, including corn and soybean. It also provides biotechnology traits that assist farmers in controlling insects and weeds. In the quarters ahead, healthy demand for crop-yield enhancing products, such as Roundup Ready 2 Xtend Soybeans and premium weed and insect control solutions, are anticipated to boost the company’s top-line performance.
We believe that rise in demand for biofuel feedstock, like corn, soybean, will boost the need for the company’s crop seeds and crop-yield enhancing products. The stock currently provides 45.3% return on equity and 18.6% return on capital. Also, its earnings are predicted to grow 12.1% in the next three to five years.
Syngenta AG – The company is involved in manufacturing, marketing and research of seeds and pesticides for enhancing crop yield and food quality. Its crop protection products are primarily used for corn, cereals and other field crops while its seeds are for corn, sugar beet, oilseeds and others.
The stock currently provides 19.7% return on equity and 14.2% return on capital.
Bunge Limited (BG - Free Report) ) – The company engages in purchase, storage and transportation of products like corn, wheat, soybeans through Agribusiness segment. It is also engaged in the production of sugar and ethanol through its Sugar and Bioenergy segment. Exiting 2016, the company had total installed cogeneration capacity of 322 MW.
Currently, the stock seems undervalued compared with the industry with respective forward P/E multiples of 18.8x and 20.9x. Its earnings are predicted to grow 12% in the next three to five years.
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