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October 2008October 2008
A Invisible Sun
Michael Swanson Ph.D.Wells Fargo Economics
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Everything is connected.
We just can’t see it.
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What you want to know
Are we in a recession? Mostly yes and a little no (typical economist) What’s a recession
What is holding the economy back Fear of the unknown De-leveraging
What is pulling the economy ahead Productivity (technological and global) Trade growth
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GDP = 11,720 = 8,341 + 1,694 + 2,088 - 350 *
GDP = 9,556 = C + I + G - (X-M)
GDP = 9,556 = 71% + 14% + 18% - 3%
GDP Breakout by Sector
Source: BEA 3rd Qtr – advance release (billions 2000 dollars)
* Net exports bottomed out at ($638) or 5.7% in the 4th quarter of 2005
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It’s hard to put the economy into recession
Long-term GDP growth is 3% Output grows with inputs and productivity
Larger labor pool 0.5% More capital invested 1.1% Productivity gains 1.4%
A recession temporarily reduces demand not supply capacity
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What’s changed?
GDP and Employment
3.94
4.04
4.14
4.24
4.34
4.44
4.54
4.64
4.74
4.84
4.94
5.04
Sep-58 Sep-63 Sep-68 Sep-73 Sep-78 Sep-83 Sep-88 Sep-93 Sep-98 Sep-03 Sep-08
Source: Wells Fargo Economics
LN of Employment in Millions
7.73
7.93
8.13
8.33
8.53
8.73
8.93
9.13
9.33
LN of Real GDP in Trillions
GDP
(right)
Employment
(left)
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Cyclical still but differentSurfing a Different Wave
-8%
-6%
-4%
-2%
0%
2%
4%
6%
1967-I 1971-I 1975-I 1979-I 1983-I 1987-I 1991-I 1995-I 1999-I 2003-I 2007-I Source: Wells Fargo Economics
GDP - expected
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Deleveraging: Is painful
Increased economic volatility Price volatility Demand volatility
Asset valuations Cost of money Predictability of cash flow
What does it mean to you?
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π = P•Q – (W•X) - FC
Increased volatility
Natural and regulatory
volatility
Timingissues
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What does money really cost?
That depends of course.
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What the Fed controls
Fed Funds Futures12-01-08
0.42 0.42 0.39 0.44 0.48 0.53 0.55 0.64 0.721.00 1.02
0.78 0.86 0.94
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
12/31/2008 2/27/2009 4/30/2009 6/30/2009 8/31/2009 10/30/2009 12/31/2009Source: CBOT, WF Economics
Yield range
last 52 weeks
I mplied yield
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It depends on who you are
3 Month Interest Rates
0
1
2
3
4
5
6
Nov-06 Feb-07 May-07 Aug-07 Nov-07 Feb-08 May-08 Aug-08 Nov-08
Source: FRED, Wells Fargo
CDs
Financial
commercial paper
non- financial
commercial paper
eff ective ff
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Wild spreadsSpread to Effective Fed Funds
-200
-100
0
100
200
300
400
Nov-06 Feb-07 May-07 Aug-07 Nov-07 Feb-08 May-08 Aug-08 Nov-08
Source: Wells Fargo, FRED
CDs
Financial
commercial paper
non- financial
commercial paper
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This will have an impact (sooner or later)
Spread in Basis PointsWeekly Prime - 3 month CDs
294
174
-50
0
50
100
150
200
250
300
350
400
Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08Source: FRED
Basis points
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How about long-term base rate and spreads.
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The Treasury Curve: Collapsed
10 Year Treasury Yields
2
3
4
5
6
7
Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
Source: FRED, Wells Fargo
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Spreads are elevated
Corporate Bond Spreadsbase 10 Year Treasury
0
100
200
300
400
500
600
Nov-06 May-07 Nov-07 May-08 Nov-08Source: Wells Fargo, FRED
Basis points
AAA
BAA
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Currency volatility
General and specific
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A two edged sword
US Trade Weighted Dollar
60
70
80
90
100
110
120
130
140
150
1-70 1-78 1-83 1-88 1-93 1-98 1-03 1-08Source: Federal Reserve, Wells Fargo Economics
Trend
Cycle
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Wheat, beef, milk and wineAustralian and New Zealand Dollar
0.50
0.55
0.60
0.65
0.70
0.75
0.80
0.85
0.90
0.95
1.00
12/29/2006 5/18/2007 10/5/2007 2/22/2008 7/11/2008 11/28/2008
to USD
New Zealand
Australian
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Soybeans, sugar/ethanol
Brazil Real1.5
1.6
1.7
1.8
1.9
2.0
2.1
2.2
2.3
2.4
2.5
1/13/2006 8/11/2006 3/9/2007 10/5/2007 5/2/2008 11/28/2008Source: Bloomberg, Wells Fargo Ag Economics
Per USDinverted
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All models are wrong.Some are useful.
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Accelerating global demand
Economic growth
Food
Technology
Productivity
Feedback Energy
++
Other
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Climbing up Maslow’s hierarchyGlobal GDP
$-
$5,000
$10,000
$15,000
$20,000
$25,000
1987 1992 1997 2002 2007
Source: USDA ERS, Wells Fargo Economics
Billions of USD
US
All Other
China
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Will you bet against it?
Global GDP
-2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
1987 1992 1997 2002 2007
Source: USDA ERS, Wells Fargo Economics
Year over Year
US
All Other
China
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(Un?)intended Consequence
Agriculture
LandValues
Energy
Inputcost
Outputvalue
Expected Profit
Cost offood
30%
100%
++
Global economic growth
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Convergence: Temporary or permanent?
Nearby Crude Oil v Corn
0
20
40
60
80
100
120
140
160
Dec-98
Dec-99
Dec-00
Dec-01
Dec-02
Dec-03
Dec-04
Dec-05
Dec-06
Dec-07
Dec-08
Dec-09
Source: NYMEX, Wells Fargo Economics
$s per barrel
-
100
200
300
400
500
600
700
800
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Driven by energy10 Years + 1
Nearby Corn Futures
150
250
350
450
550
650
750
Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09
cents per bushel
Year Min Max Spread99 1.79 2.32 0.53 00 1.75 2.41 0.66 01 1.87 2.32 0.45 02 1.95 2.73 0.78 03 2.06 2.55 0.49 04 1.99 3.31 1.31 05 1.91 2.58 0.67 06 1.90 3.55 1.66 07 3.18 4.30 1.12 08 3.39 7.55 4.16
09 prj 3.44 4.23 0.79
CBOT Nearby Corn
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Competing with corn
10 Years + 1Nearby Soybean Futures
400
600
800
1,000
1,200
1,400
1,600
Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09
Source: CBOT, Wells Fargo Ag Economics
Per Bushel
52 week
moving
Year Min Max Spread99 4.14 5.81 1.68 00 4.37 5.55 1.18 01 4.23 5.22 0.99 02 4.24 5.83 1.59 03 5.38 7.94 2.57 04 5.05 10.51 5.46 05 5.00 7.45 2.45 06 5.37 6.61 1.24 07 6.56 10.78 4.22 08 8.40 16.58 8.18
09 prj 8.70 9.13 0.43
CBOT Nearby Soybean
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The invisible hand?
Soybeans to CornLong-term Price Ratios
-
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
1958 1968 1978 1988 1998 2008Source: Wells Fargo Ag Economics
Soybean to Corn
futures ratio
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The complicating factor
Urea and DAPPrices ($/ton) FOB Gulf of Mexico
100
200
300
400
500
600
700
800
Jan-04 Jan-05 Jan-06 Jan-07 Jan-08Source: Wells Fargo
Urea
200
400
600
800
1000
1200
DAP
Urea
(left)
DAP
(rigft)
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The ratios are locked in
10 Years + 1Chicago Nearby Wheat
200
300
400
500
600
700
800
900
1,000
1,100
1,200
Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Dec-08 Dec-09
Source: CBOT, WF Ag Economics
Year Min Max Spread99 2.33 2.91 0.58 00 2.28 2.81 0.53 01 2.47 2.95 0.48 02 2.58 4.14 1.56 03 2.78 4.06 1.28 04 3.00 4.16 1.17 05 2.84 3.57 0.73 06 2.93 5.26 2.33 07 4.38 9.39 5.01 08 4.99 11.60 6.61
09 prj 5.48 6.15 0.67
CBOT Nearby Wheat
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A global commodity
Wheat to CornLong-term Price Ratios
-
0.5
1.0
1.5
2.0
2.5
1958 1968 1978 1988 1998 2008Source: Wells Fargo Ag Economics
Wheat to Corn
futures
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What’s the cost? In bushels
Corn on Cash Rent 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Average In PctYield per acre (bu.) 158 152 149 132 160 153 161 179 167 154 143Value per bu. $ 1.78 $ 1.74 $ 1.75 $ 1.76 $ 2.17 $ 2.21 $ 2.05 $ 2.03 $ 2.87 $ 3.64 Yield per acre with govt payment 162 155 152 139 161 155 171 199 169 158 Direct Expenses Seed 19 19 20 21 17 19 21 24 18 16 17 12%Fertilizer 25 25 25 28 21 22 27 31 25 22 23 16%Crop chemicals 16 15 15 15 12 12 13 12 8 6 12 8%Crop insurance 4 4 5 5 4 4 6 5 4 6 4 3%Drying fuel 4 3 3 5 6 3 10 7 4 2 4 3%Fuel & oil 5 5 6 6 5 5 7 9 7 6 6 4%Repairs 12 12 12 12 9 9 11 11 8 8 10 7%Land rent 49 50 50 51 42 42 47 49 36 30 42 29%Operating interest 6 5 6 5 4 3 3 4 4 4 4 3%Total direct expenses per acre 143 143 146 153 123 123 149 157 118 102 125 87%Overhead Expenses Hired labor 3 3 3 3 3 3 3 4 2 2 3 2%Machinery leases 2 3 3 3 2 2 2 2 2 1 2 1%Farm insurance 2 2 2 2 2 2 2 2 2 1 2 1%Utilities 1 1 1 2 1 1 1 2 1 1 1 1%Interest 4 4 4 4 3 2 3 3 2 2 3 2%Mach & bldg depreciation 13 13 11 12 10 10 11 12 8 7 11 8%Miscellaneous 2 2 3 3 2 2 2 2 2 2 2 1%Total overhead expenses per acre 29 29 28 30 24 23 25 28 20 18 24 17%
Total dir & ovhd expenses per acre 172 173 173 182 147 146 174 186 138 120 149 104%Net return per acre (11) (17) (21) (44) 15 10 (3) 13 30 38 0 0%
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Soybeans? In bushels
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Average As %Yield per acre (bu.) 44.8 41.3 41.5 38.6 44.1 33.4 34.0 46.8 45.5 43.5 39.8Value per bu. $ 5.13 $ 4.97 $ 5.11 $ 5.12 $ 5.26 $ 6.62 $ 5.54 $ 5.66 $ 6.03 $ 9.28 Yield with government payments 46.6 43.7 43.2 40.5 44.9 35.8 39.9 47.5 46.3 44.1 Direct Expenses Seed 3.4 3.6 3.6 4.1 4.2 3.6 4.6 5.3 5.1 3.6 3.5 9%Fertilizer 1.1 0.8 0.9 0.8 0.8 0.7 0.9 0.9 0.9 0.6 0.7 2%Crop chemicals 5.3 4.4 4.0 3.6 3.3 3.0 3.0 3.4 3.0 2.0 3.9 10%Crop insurance 2.1 1.9 1.9 1.8 1.7 1.5 2.3 2.0 2.0 1.6 1.7 4%Fuel & oil 1.3 1.4 1.7 1.7 1.4 1.3 1.9 2.5 2.6 1.8 1.6 4%Repairs 3.2 3.2 3.1 3.2 3.0 2.4 3.0 3.1 3.0 2.1 2.8 7%Custom hire 0.6 0.6 0.6 0.5 0.5 0.5 0.5 0.6 0.5 0.3 0.5 1%Land rent 16.1 16.5 15.5 16.1 15.6 12.5 15.4 15.8 15.1 10.4 14.2 36%Operating interest 1.6 1.5 1.4 1.4 1.1 0.7 0.8 1.1 1.4 0.9 1.2 3%Total direct expenses per acre 35.2 34.5 33.1 33.6 32.0 26.7 32.9 35.3 33.9 23.7 30.6 77%Overhead Expenses Hired labor 0.9 0.9 0.8 0.9 0.8 0.7 0.8 0.9 0.9 0.6 0.8 2%Machinery leases 0.7 0.8 0.8 0.7 0.6 0.5 0.5 0.5 0.5 0.3 0.5 1%Farm insurance 0.5 0.5 0.5 0.6 0.6 0.5 0.7 0.7 0.6 0.4 0.5 1%Utilities 0.4 0.4 0.4 0.4 0.4 0.3 0.4 0.4 0.4 0.3 0.4 1%Interest 1.2 1.1 1.1 1.0 0.8 0.6 0.7 0.8 0.8 0.6 0.8 2%Mach & bldg depreciation 3.3 3.4 2.7 3.0 3.0 2.4 2.9 3.1 2.9 2.0 3.0 8%Total overhead expenses per acre 7.8 7.9 7.3 7.7 7.3 6.0 7.1 7.6 7.3 5.0 6.9 17%
Total dir & ovhd expenses per acre 42.9 42.4 40.4 41.3 39.4 32.7 40.0 42.8 41.2 28.7 37.5 94%Net return per acre 3.6 1.4 2.8 (0.7) 5.6 3.2 (0.1) 4.7 5.2 15.4 4.3 11%
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Compare and contrastBushels In Pct Bushels In Pct
Yield per acre (bu.) 143.3 39.8 Direct Expenses
Seed 17.0 12% 3.5 9%Fertilizer 22.8 16% 0.7 2%Crop chemicals 12.1 8% 3.9 10%Crop insurance 3.8 3% 1.7 4%Drying fuel 4.3 3%Fuel & oil 5.5 4% 1.6 4%Repairs 10.0 7% 2.8 7%Custom hire 2.0 1% 0.5 1%Land rent 41.5 29% 14.2 36%Machinery leases 0.5 0% 0.1 0%Hauling and trucking 0.1 0%Operating interest 4.2 3% 1.2 3%Total direct expenses per acre 124.8 87% 30.6 77%Return over direct exp per acre 24.7 17% 11.2 28%
Overhead Expenses Hired labor 2.9 2% 0.8 2%Machinery leases 1.8 1% 0.5 1%Farm insurance 1.6 1% 0.5 1%Utilities 1.2 1% 0.4 1%Interest 2.9 2% 0.8 2%Mach & bldg depreciation 10.9 8% 3.0 8%Miscellaneous 2.0 1% 0.6 1%Total overhead expenses per acre 24.2 17% 6.9 17%Total dir & ovhd expenses per acre 149.1 104% 37.5 94%Net return per acre 0.4 0% 4.3 11%
Input-Output ratio 104% 94%
Corn Cash Rent Soybean Cash Rent
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Take-aways
Volatility rising Prices (inputs, outputs) Possible weather volatility
Financial leverage adjustments Understand your competitive structure
Differentiation: Practices or technology Implementation