With the economy pulling back, commodities are usually first on the chopping block. As the basic elements of society, any concerns that economic growth is contracting leads the market to believe that demand for commodities - copper, iron ore and oil - will decline. As a result, commodity prices retreat quickly, which in turn causes the market to sell shares in the companies that make or sell the underlying commodities.
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No commodities have been spared; not even fertilizer. Ironically, fertilizers prices continue to remain strong and have not pulled back as much as other commodities. However, prices of agricultural commodities, like corn and wheat, have slipped a little, and investors use those commodity prices to extrapolate future fertilizer demand. Lower grain prices suggests that farmer profits will decline; lower farming profits suggests that farmers will buy less fertilizer in order to reduce expenses. That's the scenario that occurred in 2008, and indeed sent fertilizer prices spiraling downward, and taking the valuations of the company's that make fertilizer along for the ride.
There's no question that another recession will depress shares further. But fertilizer helps increase food production, the most essential need for society. The long-term demand for food continues to remain robust, thus the long-term outlook for fertilizer remains strong.
Price Vs. Value
Fertilizer shares have been getting hammered in the past month, and valuations are beginning to look interesting again. Prices are still off from 2008 and 2009 lows, but investors should keep a close watch on this industry, as it offers the greatest potential going forward. Nitrogen producer CF Industries (NYSE:CF) was trading for as high as $192 a few months ago, and shares have since pulled back to $120 trading at 8.5 times current earnings. Phosphate and potash giant Mosaic (NYSE:MOS) has pulled back from nearly $90 to $46 today. Shares fell over 3% after the company announced earnings as high sulfur costs hurt margins. Mosaic has a pristine balance sheet with over $3 billion in net cash against a market cap of $21 billion.
For those investors who want a basket bet, Market Vectors Agribusiness ETF (NYSE:MOO) has holdings in all of the major fertilizer stocks; along with interests in other high quality names like farm equipment giant Deere (NYSE:DE) and seed company Monsanto (NYSE:MON). MOO offers greater diversity which helps on the downside, but that also means if a name like CF or Mosaic begin to climb higher again, MOO will likely under perform.
In any regard, the long-term outlook for agriculture and fertilizer remains as strong as ever. There are always going to be pullbacks when the economy stutters, or investors get nervous. However, as long as investors buy in at the right price, the upside value will take care of itself. (For additional reading, also see Water: The Ultimate Commodity.)
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