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Contrarian Sees Silver Lining in Corn Market's Dark Cloud

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"The drought is a very serious situation," says money manager Hackett. "But there are two sides to a commodity market."

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MINYANVILLE ORIGINAL Peter Meyer, senior director for agricultural commodities at PIRA Energy Group, hasn't seen a corn crop "this bad in 35 years."

"I just drove a stretch of Route 50 along the Ohio-Indiana border," he tells me. "For miles and miles, the fields on both sides were total losses."

Meyer is doubly alarmed about the biological changes the weather has wrought. He says, "70% of the corn in central Illinois is tasselling early," which stresses the plants and should reduce yields significantly.

"My guess is that the crop will be totally pollinated by the end of July," Meyer says. "There's just no moisture in it."

Meyer's "biggest concern is that this is not a one-year problem; this is the third year in a row there hasn't been enough corn."

Nor does Meyer buy into the data disseminated to the public; he prefers to believe what he sees himself.

"I'm personally not a big believer in what the USDA puts out," Meyer says. "They say everything's fine, don't worry about it, we'll get 'em next year. But I do my own surveys. I see beef producers in the red, pork producers barely breaking even, and ethanol plants shutting down."

Indeed, losses from ethanol refining jumped from $.13 to $.15 per gallon at the beginning of May to the high 20s currently, prompting industry leader ADM (ADM) to shut its Walhalla, North Dakota, plant in April.

In the absence of corn, affected companies turn to Plan B, Plan C, and in this case, Plan D.

"Smithfield (SFD) told me they didn't feed any corn to their animals last year," Meyer says. "They fed them all wheat, but guess what -- then you have a wheat problem. So then you move onto soy meal. Now the cash soy meal market is on fire, so they move to DDG -- dried distillers' grain. But that produces a lot of fat on a pig; the bacon doesn't crisp up like it should. So that hasn't been a silver bullet, either."

Shawn Hackett, a Boynton Beach, Florida-based money manager with a special focus on agricultural commodities, agrees with Meyer's thinking but cautions investors to view this year's corn crop through a wide lens and consider the contrarian case.

"The drought is a very serious situation," Hackett says. "I'm not trying to take away from that, but there are two sides to a commodity market -- the demand side and the supply side."

Hackett maintains that the "demand side of the picture is only getting worse and worse," and warns investors not to forget "that we've been rationing corn for over a year now."

"Be careful not to overplay one side of the supply/demand equation, but don't underplay the other side," he says.

"What normally happens when the market is really concerned about weather is that it prices in the worst case scenario very quickly," Hackett says. "However, most of the time, it's not quite as bad as they predict."

He points to a similar situation he saw unfold in 2008.

"When CNBC was showing people wheeling pallets of rice out of Costco (COST) in 2008, the top was that day," Hackett says. "Yesterday, we saw the CNBC sell signal pop up again; when they're telling a national audience that we've run out of corn, who hasn't bought already? When CNBC thinks they've got a guaranteed winner, that's when the long side should get really nervous."

Hackett hears people saying "there's no way corn can go down, and that is exactly when things start to go the other way."

"When everyone's bullish, I like to be on the other side," Hackett tells me. "When the market gets away from its infatuation with looking at daily weather forecasts, they're not going to like what they see. Every $.50 higher destroys demand exponentially. The time to be bullish on corn was a month ago, when everyone thought it was going to $3. Now, the same people who thought you should be selling at $5 say you should be a buyer at $6.50."

"If corn prices were to ease back, chicken companies like Tyson Foods (TSN) and Pilgrim's Pride (PPC) would get quite a counter rally -- assuming you buy into my thesis," Hackett says.

As for Peter Meyer, he expects the winners in this situation to be fertilizer companies. Stocks would likely include such names as Potash (POT), Mosaic (MOS) and CF Industries (CF), which could see an uptick in demand as yields fall.

And while everyone else prays for rain, one farmer Meyer met with last week is praying for something else.

"Every night, I go to bed and pray for a hailstorm," he said. "Destroy my crops, collect my crop insurance, put me out of my misery."

The USDA Illinois North Central No. 2 Yellow Corn Spot Price is currently $6.63.
No positions in stocks mentioned.
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