The News & What it Means – Falling oil prices have repercussions for agriculture

By John DePutter & Dave Milne – February 5, 2020
The News:

A barrel of West Texas Intermediate briefly traded as low as US$49.92 a barrel on Monday morning, the lowest level on record for the North American oil benchmark in more than a year.

CBC News, February 3, 2020
What it means:

A bellwether commodity, the price of oil has major implications for agriculture

Considered the king of all commodities, the price of oil has a wide-ranging trickle down effect.

The negative aspects

Part of oil’s influence on the agricultural markets is on corn, given that corn is the primary ingredient in the production of ethanol – a biofuel whose own price generally tracks that of oil. A decline in oil generally weighs on ethanol, which then weighs on corn. If corn is pulled lower, it of course drags down a wide variety of other ag markets with it.

As can be seen on the longer-term comparison chart below, corn futures don’t exactly follow oil in lock step, but there is a correlation. The two markets sometimes move higher and lower in unison. In particular, note the spikes for both commodities in 2008, the sell-off in late 2008/early 09, and the resurgence in 2011. These similarities, plus a couple of other highs and lows with some alignment, are marked on the chart below.

When corn and crude oil futures are compared, it is easy to spot some correlation. Some common highs (blue shade) and lows (red shade) are highlighted. See the text for details.

The relative strength or weakness in oil also has plenty to say about the state of the world economy and global demand for commodities.

In the current situation, oil is being pressured partly by the cancellation of thousands of flights in and out of China and factory shutdowns there in the wake of the spreading coronavirus, along with broad underlying fears the virus may dent world economic growth. Likewise, some of the crop and livestock futures markets are under pressure from similar fears.

It’s not clear whether commodity markets will continue to be affected by the implications of the virus. At this time, crude oil seems to be finding some support around the US$50/barrel mark. It is managing to hold above its 2019 low of about $42. However, that low price is not far away. If crude holds here, crop and livestock futures might hold up, as well. If crude slips toward the $42 area, crops might be part of the general bearish action.

Some benefits too

Lower oil prices are not all bad news.

As the price of oil rises or falls, the price of gasoline and diesel follows with a delayed reaction, making it more expensive or cheaper for producers to fuel farm machinery. In this case, the drop in oil prices – if it is lasting – could bring some much-needed relief to Canadian agriculture.

According to the latest farm income numbers from Statistics Canada, machinery fuel expenses jumped 18% in 2018, following a 9.4% rise in 2017, further squeezing already tight profit margins.

All of the numbers for 2019 are not yet available, but the latest StatsCan farm input price index – released last month – showed farm fuel costs down 7.5% in the third quarter of 2019. Farmers have noticed lower fuel prices just lately too.

Lower oil often also brings the benefit of a lower Canadian dollar.

As with corn, the movements in the loonie and oil don’t always exactly mirror each other but as a major oil exporting nation, Canada’s currency often dips when oil prices decline and vice versa. Sure, Canada’s economy is less dependent on oil than it used to be. But still, the price of oil is one key factor in the value of our currency. And as all farmers on this side of the border know, a weaker Canadian dollar is a net benefit to returns.

Get commentaries on the crude market – and what it means for agriculture – as part of our services

As part of our weekly Market Advisory Service newsletters (for the West), along with our Ag-Alert reports (for Ontario), we often include commentary, analysis, and special reports dealing with the non-ag markets including crude oil.

In 2006, 2007 and early 2008, our services accurately viewed crude as an early signal of an upcoming macro-economic upshift for crop markets. When crude was flying high at above $100 in 2012, our services warned that prices could eventually fall to the $50 area, and during the past five years the market has in fact been trading above and below that approximately mid-point.

Most recently, readers of the DePutter reports were advised in early January that crude oil could fall, given bearish chart reversals seen during the US-Iran clash.

You’re doing business in a very interconnected world. Our newsletters and special reports contain practical, useful comments on crops and important markets like crude oil.

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