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Ethanol: One Of Several Factors Fueling Corn Prices

Tim Parker

When it comes to the financial markets, corn is everywhere. You can invest in corn directly through derivatives and corn-related exchange traded funds (ETFs), or indirectly through agriculture-related equities like Deere & Company (NYSE:DE) or Mosaic Company (NYSE:MOS).

The present and future value of corn plays a role in your investments as well as your wallet. At the grocery store, prices are on the rise. Food prices could soar as much as 3 to 4% this year due to the drought.

Investors and consumers have the drought on their minds, but that's only one of the factors that will affect corn prices this year.

SEE: 5 Grocery Items Affected By The Rising Price Of Corn

Ethanol Is Key
Another key factor to consider is ethanol.

In an average year, growers divert one-third of the nation's corn crop from food to ethanol production. Last year, the drought that affected 65% of farmland in the continental United States reduced corn yields. Because of that, nearly half the corn crop went to ethanol production.

The lower supply has created a battle among ethanol producers that rely on the quotas to stay in business, meat producers that are finding it more expensive to raise livestock and food manufacturers who are feeling a margin squeeze.

Enter the EPA
Whether you believe that a significant portion of the smaller corn harvest should be diverted to ethanol, the U.S. Environmental Protection Agency's (EPA) 2005 Renewable Fuel Standard says it should. Created as part of the Energy Policy Act, this law calls for an increase in the amount of fuel derived from renewable sources, including corn.

Because of last summer's drought, many have called for a waiver of the federal ethanol mandate, which would result in lower demand for corn, lower corn prices and, therefore, lower food prices.

So far, the EPA has said no.

In a statement on its website, the agency asserted that its "extensive analysis makes clear that congressional requirements for a waiver have not been met."

Another Tough Year Coming?
The U.S. Department of Agriculture, in its annual Crop Production and Grain Stocks Reports, indicated lower corn stocks than previously expected. In addition, Blackstone Advisory Partners vice chairman Byron Wien predicted that climate change would contribute to widespread crop failures in 2013.

Coupled with concerns on the part of some about a corn seed shortfall for the coming planting season, will the EPA reconsider?

Michael E. Kraft, professor emeritus of political science and public and environmental affairs at the University of Wisconsin-Green Bay, in a Jan. 10 opinion-editorial in the Kansas City Star, called for Congress to rewrite the renewable fuel mandate in a way that discourages the use of corn to make ethanol.

SEE: Commodities: Corn

2013 May Surprise the Market
A number of other factors suggest the possibility of an abundant corn crop in 2013. Farmers in South America and the Ukraine plan to plant more acres. U.S. farmers alone will plant 99 million acres of corn in 2013, the highest acreage since the 1930s, according to Informa Economics.

A Jan. 10 report by the U.S. Grains Council indicates that, for the first time in history, China will produce more corn than rough rice. This is the result of growing affluence in the Chinese middle class and a desire for a more protein-rich diet.

Citing the results of the USDA reports, Teucrium Funds analyst Sal Gilbertie said he believes those results indicate that demand is strong, even in the face of higher prices.

SEE: 4 Rising Food Costs That Will Hurt Your Wallet

The Bottom Line
Farmers will be hoping for that often-elusive combination of good weather and high demand to drive up the value of corn when the 2013 planting season gets underway.

Meanwhile, since those yellow kernels are so inextricably woven into the fabric of both the financial and consumer marketplaces, keeping an eye on the price of corn makes sense for investors and shoppers alike.

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