With supply issues and politics, agriculture stocks are a legitimate investor trend now. From upstream farming & fertilizer stocks to downstream grocery stores (are you seeing the food inflation numbers right now??) the Market will be paying a lot more attention to this sector for a few years.

This week and next I’ll share some of my research with you on upstream fertilizer stocks–both physical and on the exchange! Prices for the commodities are at 8 year highs, but what about the stocks on North American exchanges?

This week is PHOSPHATE. Next week is POTASH.

Commodity prices have had a great year. Oil, base metals, agricultural products–are all up. The junior stocks in these sectors have also had a fabulous year (first half of the year anyway)–but ag stocks not so much. Could they be the next big mover–or is this sector already peaking?

Today I take a quick look at phosphate, a fertilizer. I am long a couple phosphate stocks, but only in a small way.

Like oil stocks two years ago, this sector was left for dead. Yet not only is its pricing up BIG this year, it has a potential extra catalyst–Electric Vehicle (EV) batteries. Tomorrow I’ll give you some thoughts on potash, another fertilizer.

Phosphate is a key fertilizer ingredient. N-P-K – P is for phosphate (the N stands for nitrogen, and K for potash). Plants need all 3 of these to grow to their potential.

This year, the prices of all three fertilizer inputs have all been going through the roof. But it is phosphate that has really caught my attention. 

Source: BMO Capital Markets

Short-term, prices of phosphate are being driven up by India and China, where supply is short. But phosphate is a commodity. These sorts of imbalances are bound to correct with lower demand and new supply.

In the past this has certainly been the case. Roughly 85% of the world’s phosphate ends up in fertilizer. If phosphate prices rise too far, farmers cut back on usage. While demand for phosphate has been broadening out – it is now used as a preservative in food, in pharmaceuticals and in detergents – it is still fertilizer that drives price.

What might make phosphate different this time is that there is increasing adoption of lithium-iron-phosphate batteries, particularly in China. A new source of demand that – if it’s large enough – could send the entire price structure for phosphate to a new level. (At a minimum, it should increase the price at the margin.)

To determine if this is the case, we need to dig into the details.

 

Inventories Already Low As Covid Hit

 

China is the biggest player in the global phosphate market. China produces nearly 60% and it is the world’s largest exporter. China’s exports are on the order of 10-11 million tonnes annually.  

Source: BMO Capital Markets

This compares to phosphate demand of ~75 million tonnes.

Source: BMO Capital Markets

What is driving phosphate prices this year is partly because of China and partly global demand.

Like everything else, it starts with COVID. The world had low inventories in Jan 21 due to COVID uncertainty. As the economy has bounced back, there has been a rush to restock—especially in Brazil – a large agricultural producer – where imports have surged this year.

Brazil and India are the two largest importers of phosphate. But as you can see from the chart below, India demand has not surged this year:

Source: BMO Capital Markets

The reason is fertilizer import subsidies. Lower subsidies (determined by the Indian government) have led to negative margins for importers. With little incentive, no surprise that imports drop.

The result is what RBC Capital Markets describes as “critically low phosphate inventories” in India.

These low inventories should keep the phosphate party going in 2022. Mosaic expects increased Indian demand next year:

“Given how depleted Indian inventories are, we see India as a source of pent-up demand, which should return to the market in 2022.”

 

Now China and Russia Are Restricting Exports

 

Meanwhile China and Russia are squeezing supply – pausing their export of phosphates.

On their Q3 call, Florida based Mosaic (MOS-NYSE) said “Chinese exports are expected to decline significantly in the fourth quarter and in the first half of 2022”.

The mandate for reduced imports comes from the top down – China’s National Development and Reform Commission.

Asked on the call where they thought China exports would be next year, Saskatchewan-base Nutrien (NTR-NYSE/TSX (the old Potash Corp)) management replied a “range of 8 million to 9 million tonnes sort of similar to where they were in 2020, is likely a realistic level given the increased constraints.”

Compare that to the 10-11 million tonnes of the past, and it’s another reason to think phosphate’s strength has some legs.

It is similar in Russia. Canadian brokerage firm Scotiabank recently wrote that “Russia will tighten export controls of nitrogen, phosphate, and NPKs, likely through May 2022.”

Meanwhile, new phosphate supply is not on the horizon. There are some small additions coming from Morocco and Saudi Arabia, but not enough to fix the market overnight. 

As a result, pretty much every analyst expects the phosphate tightness to continue into 2022. But the question that nobody can answer is–is this just a regular cyclical peak. Most analysts have phosphate prices back down to the historic average by 2023.

I think there is definitely a 1 year TRADE in these phosphate stocks, but can there be a multi-year TREND here?

 

Phosphate for LFP Batteries:

THE NEW DEMAND DRIVER?

 

The question is – can LFP demand be that driver?  Will demand be high enough to extend the shortage, and if not, will it eventually be enough to impact the balance?

BMO Capital Markets does not think so. In a research note written in September, BMO concluded that “incremental LFP-related phosphate demand in 2030E” would be “well less than 1Mt, less than 1% of 2030E forecast phosphate demand.”

The BMO analysis is based on 10 million electric vehicles in 2030. They assumed phosphate was 20% of the cathode weight and that the cathode weighed 2 kg/kWh and a 45kWh LFP pack size.

I checked their numbers. They seem reasonable. By comparison, US brokerage firm Bernstein estimates that phosphorus makes up a little more than 10% of the ~2.5 kg/kWh LFP weight right now. Morgan Stanley estimates a 2.2 kg/kWh cathode weight that is less than 15% phosphorous.

That is not a huge number–but it might not take much new demand at the margin to keep prices higher for longer. There is some disagreement among the analysts. The largest Canadian broker—RBC Capital Markets—recently said that:

“Increasing adoption of previously overlooked lithium iron phosphate (LFP) batteries in China, and potentially in other regions including the US, may be another long-term growth driver… if growth tracks general market EV growth expectations (~20% CAGR), this dynamic could result in a much tighter long-term phosphate S&D dynamic than we currently anticipate.”

Unfortunately, RBC has yet to provide the data, at least publicly, to back up this point of view.

 

Regular Cycle Peak or Do We Get An Extended Peak?

 

The bottleneck appears to be the iron-phosphate manufacturers. A recent article from SMM News pointed out that producers “are running at full capacity amid saturated orders and no longer accept new orders”. Prices have jumped as a result.

Unfortunately, the iron-phosphate business is almost entirely in China.

At first glance, the LFP demand scenario does not appear to be a huge game changer for phosphate prices; i.e take them to higher highs from here.

But supply is already so tight, any increase in demand could extend the cyclical peak in pricing we are seeing now–by quarters to years.

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