Just what the commodities market needed, a cyclone in Myanmar. Rice gained for a fifth day, as the storm’s floodwaters continued to cut their path of destruction through 5,000 square kilometers of once-bountiful farmland. Now that stockpiles of many commodities have sunk to a record low, we thought we’d put out some hints from Morgan Stanley on what strategies might work best in weathering this near-Biblical plague.

Supply in ag markets is inherently volatile due to weather. With record low stocks for many commodities, price spikes are likely in the event of any supply disruptions.

So wrote Morgan Stanley’s equity strategy team led by Teun Draaisma at the beginning of the week.

By Thursday, rice futures - which hit a record last month - rose for the fifth day as the devastation wrought by Cyclone Nargis in Burma became clear. The storm struck the country’s main rice-growing area last weekend, raising the prospect of Burma, expected to export 600,000 tons of rice this year, would become a net importer.

Asia rice prices have almost trebled this year. So, explains the MS team:

The spike in prices in the last 6-12 months has been due to inventories being very low, meaning many ag markets are at the pinch point where prices can go vertical in response to any big supply/demand shifts.

The structural bull argues that rising incomes, population growth, urbanisation, high oil prices, low inventories and political interference will conspire to keep prices of agricultural products and food high for the next three to five years. Measure to boost supply will likely take several years to materialise.

But Morgan Stanley argue that in the near term we’re facing a period of volatility - speculators could accentuate any swing in prices which results from a production surprise on the upside, while political priorities appear to be shifting.

Their commodities man thinks the pullback in wheat prices, already 30 per cent off their highs, will continue.

Morgan Stanley’s stock conclusions:

We have constructed two baskets of stocks to express a bullish or bearish view on the theme. The ‘winners’ - mostly suppliers to agriculture - have outperformed significantly and now enjoy a record 110% PE premium to the market. However, the fundamentals may remain strong for several years and these stocks have not yet reached Nasdaq like bubble territory. The ‘winners’ include Bayer and BASF which are in the European Model Portfolio. Our ‘losers’ basket includes food, beverage and food service stocks.

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