How to profit from rising food prices

Investors breathed a sigh of relief yesterday as Abu Dhabi rode to the rescue of its naughty younger brother Dubai.

A last-minute $10bn loan reassured investors that no problem in global markets is too big to bail out. $4.1bn was used to repay troubled property developer Nakheel's bond which came due yesterday. The rest will buy Dubai World time to negotiate a restructuring of its debt with lenders.

Stock markets around the world made gains. But they shouldn't get too complacent. Dubai's little hiccup is far from being the worst shock investors can expect in the months to come...

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Dubai's not the only region in trouble right now

Dubai's woes aren't important enough on their own to derail the global economy, as my colleague Cris Sholto Heaton pointed out in his MoneyWeek Asia email yesterday (you can subscribe to it here for free). However, the emirate's clumsy attempts at dealing with its debt problems are a very real reminder that the world is a risky place.

And it's not the only region in trouble. Many far more financially significant parts of the world are under pressure. For example, the Greek government seems to be waking up to the need to reassure markets about its commitment to dealing with its budget deficit. But there's a big difference between talking about fiscal responsibility and acting on it.

Unlike Ireland, the Greeks haven't yet convinced their public sector workers of the need for wage cuts and job losses. Indeed, the Greek Prime Minister, George Papandreou, has said that public sector workers will receive real wage increases next year. As Jonathan Loynes of Capital Economics points out, that's "hardly a sign of serious fiscal restraint."

Meanwhile, Austria has just nationalised its sixth-largest bank, Hypo Alpe-Adria Bank International. It's the second Austrian bank nationalisation since the financial crisis began. The main worry for Austrian banks is property debts going bad in Eastern Europe. A bank collapse in Austria could undermine confidence in the whole region.

With all these timebombs waiting to go off, the euro looks vulnerable to falling further, particularly against the dollar. We looked at ways to play a rising dollar last week: Three ways to profit as fear returns to global markets.

• Why UK property prices are going to fall 50%
• When it will be time to get back in and buy up half price property

Why food prices are set to rise further

Of course, we can't be sure of where future surprises will come from. But as Cris puts it, like it or not, investors will have to get used to a more volatile world. Another area that seems likely to see a lot more volatility is food prices. Global food prices rose by 7% in November, according to the UN Food and Agriculture Organisation (FAO). That's the biggest jump since February 2008.

Soft commodity prices in general have lagged behind other commodities this year. But Barclays Capital reckons prices could continue to rise into next year. "Inventories are extremely low in a number of grains markets. The prospect of a further bout of food-price inflation in 2010 cannot be ruled out." For example, global production of rice has "lagged behind demand in four of the past eight years," reports Bloomberg.

The FAO reckons that food production must rise by 70% over the next 40 years. That's based on the global population growing to 9.1bn, from 6.8bn now. As populations get richer, they tend to eat more protein-rich food, which in turn is more grain intensive. That spells higher prices.

How to play rising food prices

You can bet on soft commodity prices directly. But it's not the best way to play rising demand for food in the long run. Food prices are very dependent on the weather. So if anything, it's even harder to estimate future supply and demand than it is for the likes of base metals. More to the point, high food prices can't last for long. A solution needs to be found, whether that be devoting more land to food production or improving existing yields. We can't reach 'peak food' or we're all in trouble.

So a better way to play long-term rising demand for food is through investing in companies involved in the food production process. My colleague Eoin Gleeson wrote about this in a recent MoneyWeek magazine cover story: Five ways to profit from the new agriculture revolution. And another interesting area in the food sector right now is milk. Chinese demand for dairy produce is recovering after its contamination scandal last year. Eoin also looked at the companies best-placed to profit from this recovering demand last month: Profit from China's rediscovered love for dairy if you're not already a subscriber, you can subscribe to MoneyWeek magazine.

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