Is Potash Corp. Overpriced?

Three years ago a single ton of fertilizer used to be worth $340, and in 2008 the price has jumped to $640. Since the summer of 2008 the price of grain commodities has crashed. As the world begins its sowing season, one must wonder,"will people be able to afford to buy fertilizer this year?" If not... then… Is POT over priced?

In this short qualitative piece, we will discuss key demand/market elements that many analysts and speculators are ‘bagging on’, and understand why the current POT price is unsustainable.

Demand: China will buy more!

China has been a driver of the commodity price hikes in the last several years, and fertilizer was no exception. As many readers are aware, China is experiencing major drought right now; this is due to Communist Government’s lack of planning and poor judgment. However, China’s drought will not substantially increase China’s purchase of fertilizers. This may shock some readers, but I beg readers to think one step farther. This is because fertilizers are ‘hygroscopic’, meaning they absorb moistures from the surrounding environment. The application of fertilizer during the drought will result in a disaster, as dusty wind (drought) will simply blow away the fertilizer on top of the dry soil.

What about ‘other’ parts of China? Wouldn't they use fertilizer to increase production? Well, other parts of China (i.e. deeper inland) suffer from lack of proper infrastructure and system that will not efficiently utilize the benefits of fertilizer. Fertilizer should be applied in such a way that it will go into the soil to promote soil rejuvenation for 'many' years, and such application require proper analysis and planning, something China is struggling with. One can always hope that the Chinese government will make ‘another’ foolish blunder in order to increase the crop yield, but China will not make the same mistake twice. Hope is not a strategy.

Demand: Asia’s other developing countries.

Asia’s developing countries (who happen to purchase bulk of fertilizers) are facing severe pressure from the IMF and the World Bank to stabilize their currency by safe-securing sufficient amount of foreign reserves (i.e. the U.S. dollar). The purchases of fertilizers are being delayed, and cancelled. The governments in Asia are promoting home-made fertilizers in order to substitute the import fertilizers.

Demand: North America’s need for more grain!

One might expect other countries will invest in fertilizers to increase their yield, and increase their market share in the industry. However, that is an armchair economic theory. Until very recently, the farming industry has been under severe stress. In many parts of North America, small farming communities disappeared and turned into ghost towns. It is no secret that many farmers have been living off of generous government subsidies. This is why so many corn farmers were excited by ethanol production schemes. For the first time in many decades farmers were able to make serious money from actual farming! Unfortunately, these farmers over-extended themselves with cheap credit, and are now paying the price. The low grain prices are forcing farmers to default on their new ‘tractors’ and ‘planting machines’. This is evident by the fact that growing numbers of farmers are going ‘bankrupt’. At this point in time the worry of fertilizer is at the bottom of many farmers’ check list.

Demand: Grain Rally!

In the past, the prices on fertilizers were ‘justified’ due to high grain prices. However, as grain prices tanked, so did the fertilizer market. Many analysts are still talking about $1000/ton fertilizer and some reporters cite $1500/ton! This means that these analysts are banking on high grain prices. Although we can appreciate their analysis, higher grain price doesn’t necessarily result in higher fertilizer price; and most importantly, we do not expect the rise of grain prices any time soon.

In many countries there is something called ‘wheat board’ and ‘quota’. The ‘wheat board’ guarantees individual farmers that the board will purchase grain from each farmer according to the ‘quota’ that farmers are entitled to. This also means that farmers can’t sell their crops beyond their quota. When times were good, this quota rule was ignored, and farmers used fertilizer to increase their yield. However, with the falling grain prices, there is now no incentive to buy fertilizer to increase the yield, and farmers are playing safe by producing only up to the limit of their quota. This is evident in South America where farmers are seeing their soy bean prices crashing down due to weak demand in Asia. The free-market at work.


Then there are POT-bugs

Since 2008, people have been talking about fertilizer’s value in protecting one’s investment from: ‘THE US DOLLAR CRASH’ and ‘INFLATION.’ Many claimed that fertilizers will hedge against the US dollar and inflation. However, there has been no credible proof that fertilizer stocks have hedged against the foreign exchange risk or the inflation. Such groundless ‘speculation’ is based on ‘hope’ and ‘fear’, the two most dangerous words every investor should stay away from. People must understand that fertilizers are not gold, not even close.

Summary: Yes, $90/share is too much!

The worldwide fertilizer demand is disappearing fast, and although ‘hope’ is keeping this stock up and running, the underlying fundamentals cannot be ignored. So, how will all this play out? The technical shows POT has hit multiple resistances/supports between Dec/Jan (support around $65 and resistance around $80) in the last several weeks. Based on the list of qualitative points, a short is recommended for POT with target price at $65/share.