Thursday, March 30, 2006

Foot-and-Mouth disease outbreak in Argentina

As some of you may already know, authorities in Argentina have reported an outbreak of foot-and-mouth disease near the border with Paraguay. This same thing happened to Brazil last October 2005.
The National Service for Food Safety and Quality said it had found some 70 cattle showing signs of the infection in a district in the province of Corrientes, Argentina and they said that the latest outbreak was isolated and that its origin was still unclear. Because of this outbreak, more than 3000 heads have been sacrificed and they have sealed off a 20 sq km area to contain the disease.

For those of you who are not entirely familiar with Foot-and-mouth, it is a highly contagious (for animals) illness that affects cows, sheep, pigs and goats. It does not harm humans, but it can definitely hamper the meat trade between nations.

The question all of us who are involved in cattle growing must be asking right now is: How is this going to affect our investment?

To understand the real implications of this, we need to take a look at a few numbers, to wit:

Argentina, the third largest exporter of beef in the world, exports around 20% of its yearly production equivalent to approx. 600,000 tons of beef out of the 3.2 million tons of beef that are produced every year. The other 80% of course is consumed locally at an average of about 70 kilos of beef per capita a year. Argentina is by very far the largest consumer of beef in the world on a per capita basis. Second comes the US at a much lower 43 Kilos per year (per capita).

Argentines complain regularly (it is in every newspaper's front page) at the current price of beef. Which means that if the price was lower, demand would be even higher than the 70 kilos per year.

The 20% that Argentina exports per year represents to the national economy U$1.4 Billion approximately or 0.7% (less than 1%) of the yearly GDP of approximately U$200 Billion.

Out of the total Argentine current beef exports, approximately 2% comes from the province of Corrientes.

Now, most of Argentine's beef largest foreign buyers have decided to "regionalize" the 6 month ban imposed on beef trade (same as they did with Brazil) and limit it to the 1 district in Corrientes where the outbreak was discovered and the 7 districts that could have been affected (where the 3000 animals where slaughtered). The only exception was Chile, which was the only country not to regionalize the outbreak.
Chile buys the equivalent to U$50 million a year. Corrientes accounts for less than 2 percent of Argentina's overall beef exports. Meat from other regions of Argentina which are free of FMD can continue to be exported.

Now one may wonder... why would any country (Russia, EU, Israel, etc..) decide to regionalize the outbreak and accept beef from the rest of the affected country (be it Argentina or Brazil)? The answer is twofold:
First, they trust that the problem has been properly dealt with, duly informed and contained in a very timely manner (as opposed to concealing info about the outbreak and letting the world try find out and decide what measures should be taken). The EU Commission praised Argentina for having taken "rapid action" to prevent the disease from spreading into other areas. Second, beef is a limited non-fungible commodity. There is only so much of it and there are almost no other countries that could pick up the slack (when a country like Brazil or Argentina falls off the market) and supply beef to the rest of the world overnight. Cattle growing is a biological business and the cattle cycle takes 3 years so if these things are not planned ahead, there is very little that can be done to compensate for the shortage.

What does all this info mean to us? According to the Argentine government it means that, for the next 6 months, there could be a decrease of approximately 15% in beef exports which could translate in a decrease in the price of beef of about 5%, that might or might not be transfered to the final consumer. After the 6 month ban period (standard in this kinds of outbreaks), and provided the Argentine government does a good job at recuperating the credibility and trust of the foreign markets, trade should go back to normalcy (same as it was before the outbreak). This means that we could expect a small decrease in the returns we should obtain in the next 6 months or so. Said returns should recover after the ban has been lifted.

Can the ban last longer than 6 months or can the buyer countries decide to go with their money somewhere else? Could be, but this scenario is very unlikely. There is a deficit (shortage) of beef in the world, hence its high price, and the world market can not afford to lose the 1st and 3rd largest exporters of beef in the world (Brazil and Argentina) even if it is one at a time, let alone both at the same time (specially now that new outbreaks were discovered in Brazil's Matto Grosso as recently as this week). There is simply no other countries that can supply the shortage. In addition to this, the world is starting to get seriously hit by the Bird Flu (aka the Chicken Curse), in Asia and now also in Europe. Unlike Bird Flu, FMD does not affect humans and is much easier to contain.

Russians and Europeans will have no choice but to lift that ban as soon as possible unless they expect their people to either eat potatoes for the rest of the year or have them pay 100 euros the kilo of beef. Both highly unlikely scenarios.

Those investors who decide to stay put and let the 6 month ban pass might have an opportunity to recover any decrease in their returns from this round due to the FMD.

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