Earnings highlight potential weaknesses for agriculture

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Michael Fowlkes 02/17/2014

Winter earnings season continues to roll along, and the most recent sector to take center stage was the food and beverage sector. Last week there were numerous earnings reports from within the sector, setting the stage for the next few months.

One of the bigger food-related stocks to report its quarterly results was Deere & Co. ( DE ), the largest manufacturer of farm equipment. The company reported a 5% jump in net income, but looking ahead it issued a warning that farm equipment sales are likely to moderate, resulting from lower farm incomes. It forecast a 6% drop in equipment sales during the current quarter, and a 3% drop annually.

That Deere forecast a drop in farm incomes does not come as a surprise. The Department of Agriculture has already forecast a steep decline during the current year. It forecast a 27% decline in farm incomes, hitting the lowest level since 2010.

Dean Foods ( DF ), which produces dairy products such as milk, butter, and ice cream also reported last week, issuing its fourth-quarter results on February 11. The company missed its earnings forecast, and reported an 8 percent decline in revenues. The company stated that already high milk prices are expected to continue rising through the first half of the year, creating a "very challenging environment" for the company. It issued full year earnings guidance in a range of 73 cents to 86 cents per share, coming in well below the $1.12 analysts had previously forecast.

Mosaic ( MOS ) also reported last week. That company, which makes crop nutrients, also reported fourth-quarter results on the 11th, posting a 79% year over year drop in quarterly profits. The decline was blamed on last year's breakup of one of the world's biggest potash traders, Belarusian Potash Co., which caused a sharp drop in the price of potash, which is used as a nutrient. This, along with a drop in grain prices, was responsible for Mosaic's big profit slide.

Mosaic had earnings of 30 cents per share, sharply lower than the 42 cents analysts had expected, while its $2.2 billion revenues was higher than the consensus estimate for $1.86 billion.

Despite the big earnings miss, the stock did move higher, but that was mainly because the company announced it would buy back an additional $1 billion in stock, on top of the $2 billion it announced back in December. Additionally, the company reported that nutrient prices were already rebounding, and that this would be a better year for earnings.

Combined, these earnings report highlight potential future weakness in the food and agriculture sectors. If the overall economy continues to improve through the year, these companies could trade higher, but at the current time the outlook does not appear too favorable.

If you want to make a play on the agriculture sector, you may want to consider setting up a hedged trade on the exchange-traded fund Market Vectors Agribusiness ETF ( MOO ). This ETF is set up to track the performance of the Market Vectors Global Agribusiness Index, so it will keep pace with entire sector. Among its top holdings are Monsanto ( MON ), Deere & Co., Archer Daniels (ADM), and Syngenta (SYT)… all of which are major agriculture stocks.


Chart courtesy of stockcharts.com

I would take a bearish position on MOO, but I would also look to hedge my trade just in case we do see major improvements take the sector higher. I would look to set up a bear-call credit spread with enough protection so that the trade will remain profitable even if MOO trades higher over the upcoming months.

A nice hedged trade on MOO would be the May 55/60 bear call credit spread. In this trade, you would sell the August 55 call while buying the same number of August 60 calls for a credit of 35 cents. This trade has a target return of 7.5%, which is 15% on an annualized basis (for comparison purposes only). MOO is currently trading at $51.83, so the trade has 6.7% downside protection.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

Originally published on InvestorsObserver.com


This article appears in: Investing , Options

Referenced Stocks: DE , DF , MOS , MOO , MON

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