Russia's invasion of Ukraine has had a cacophony of secondary and tertiary effects with the bulk of them being negative. While, most headlines have been focused on the soaring price of energy, equally important is the rising price of food.
Ukraine and Russia supply Europe and Asia with large amounts of wheat and fertilizer. These supplies are unavailable due to sanctions or are being produced and sold in much lower quantities. Remarkably, agricultural commodities were already in a bull market prior to this catalyst due to strong demand and underinvestment in new capacity and production all across the agricultural supply chain.
Essentially, the same forces that birthed the bull market in other commodities are also what led to rising ag prices. Farmers and companies expected decreased demand and pricing due to the coronavirus. This turned out to be totally incorrect as demand was equal to pre-pandemic levels and is now higher due to stimulus payments and the economy turning out to be more resilient than expected.
Another factor leading to upside pressure has been the same supply chain issues and transportation bottlenecks which are impacting companies' and farmers' ability to get and fix equipment and also transport their goods to end-users. Higher trucking and shipping rates, as well as fuel costs, are also reflected in these prices.
As a result of these developments, we are seeing extraordinary moves in agricultural stocks such as Nutrien
So far, the bull market has been more supply-driven, so the onus has to shift to the demand side for the bull market to keep trending higher as supply-side issues will naturally sort themselves out as producers and operators respond to higher prices. Further, there are signs that extremes in bottlenecks, transportation costs, and supply chain issues are ebbing which bodes well for higher production.
Even with this fertilizer stocks are likely to outperform due to strong economic growth leading to high demand. Further, these stocks remain pretty cheap despite strong gains in recent months. This is an indication that investors are already pricing in an earnings slowdown. Many fertilizer stocks have forward P/Es in the 10-13 range and are forecast to grow earnings by 30% to 40% over the next year.
