Gains Of Up To 52% Thanks To This Weather Phenomenon

If you’ve been paying attention to the weather lately, you’ve probably heard something about the El Nino effect. El Nino is the name given to the global weather pattern occurring generally once ever five years where warming ocean temperatures in the Pacific causes a shift in wind patterns and atmospheric pressure. 

#-ad_banner-#The National Oceanic and Atmospheric Administration (NOAA) puts the odds at 95% that the El Nino weather phenomenon will continue through the rest of 2015 and into the spring of next year. In fact, some meteorologists are starting to see close similarities to the weather pattern that hit back in 1997, dubbed “Super El Nino”.

While making investment decision based on weather phenomenon is not a guaranteed trade, history shows some clear patterns of which you can take advantage this year. Within the data, winners and losers start to emerge from Mother Nature’s wrath.

How El Nino Affects The Weather — And Stock Prices
The latest data from the NOAA shows strong similarities between this year’s El Nino and the super patterns experienced globally in 1982 and 1987. Average surface sea temperatures were 1.5 degrees Celsius above normal from July to September, the third highest average on record after 1.6 degrees in 1982 and 1.7 degrees in 1987. 

In the United States, El Nino brings heavier than normal winter rainfall in California and much of the South and East. While that’s good news for California and its historic drought, it could be a mixed message for Southeastern farmers. Delays and excessive rainfall tend to decrease corn and winter wheat yields. Rain and higher temperatures bring an increased risk of pest infestations like Hessian flies and support fungal and bacterial diseases in crops.

El Nino could be devastating for other parts of the world. The pattern brings drought conditions to key agricultural regions in Brazil, India and Indonesia. Brazil is already struggling with a multi-year drought, its worst in 80 years, and is the world’s third-largest exporter of agricultural crops.

While agricultural commodity prices have fallen over the past year on the stronger dollar and higher supplies, affects from El Nino could turn the market around quickly. In six of the last nine El Nino patterns dating back to 1972, crop prices rose over the subsequent 12 month period on an inflation-adjusted basis. Research by S&P Dow Jones found that commodity sector returns have increased in each of the 12 months following all nine El Nino patterns since 1983.

A Boom For Some And Higher Expenses For Others
The need for greater use of fungicide in the northern hemisphere and higher crop prices from droughts in the southern hemisphere have lead to strong gains for agriculture chemical and fertilizer companies after El Nino years. The increase in crop prices could dent margins at food processors, especially those buying grain crops like corn and wheat.  

The table examines stock price returns twelve months after the start of the last six El Nino weather patterns.

El Nino And Stock Price Returns
(12-Month Subsequent Return)
Beginning El Nino General Mills Kellogg Company PotashCorp Agrium S&P 500
Nov-86 0.0% -0.5% -7.5%
Nov-91 -5.0% 7.5% 3.5%
Dec-94 0.3% 41.6% 95.6% 31.0%
Jun-97 0.5% -16.0% -0.3% 10.6% 20.0%
Oct-02 1.7% 6.1% 19.0% 40.3% 12.3%
Oct-09 10.6% -4.0% 25.9% 52.7% 11.9%
Source: NOAA, Yahoo Finance

Higher crop prices mean higher expenses for food processors like General Mills (NYSE: GIS) and Kellogg Company (NYSE: K). General Mills has underperformed the general market in five of the last six El Nino cycles. Grains represent up to 10% of General Mills’ total expenses and the gross margin is already at a decade low, down 1.8% from 2014. Despite expectations for full year 2015 sales to fall by 3.6%, the shares trade for 18.5 times trailing earnings against a five-year average of 16.6 times earnings.

Historical data is more limited for the fertilizer and agricultural chemical companies. Drought and other negative crop conditions increase the demand for fertilizers to support crop yield. Agricultural chemical producers could benefit from increased demand for pesticides and fungicides. 

PotashCorp (NYSE: POT) is still working through the multi-year breakdown in the global potash pricing structure but could get a boost on fertilizer demand. The shares have outperformed in three of the last four El Nino cycles. The company is a global leader in fertilizers with much of its production in low-cost areas of Canada. Shares trade for just 11.4 times trailing earnings and the company has the balance sheet strength to outlast smaller rivals until conditions improve.

Besides a strong position in fertilizers, Agrium (NYSE: AGU) books 35% of sales on agricultural chemicals and could benefit from increased demand in both. Besides producing its fertilizers and chemicals, the company owns a strong retail network that allows it to profit across the entire supply chain.  

Risks to Consider: The trend of El Nino and higher crop prices isn’t exact and there have been occasions when food processors have outperformed while agriculture chemicals have underperformed. 

Action to Take: The return of El Nino has brought very predictable results in the past for crop prices and several sectors of the economy. Protect your portfolio by positioning out of food processors and into companies within the agricultural sector that will benefit from the weather phenomenon.

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