01/01/2008 (AllAfrican.com) - African producers of almost all agricultural commodities can expect strong prices on global markets next year, with growing investor interest boosting demand-related increases.

Wheat, corn and soy have all rallied in recent weeks and analysts say grains will continue to be hot into the New Year. When Barclays Capital asked 150 clients at a commodities conference this month which sectors they expected to produce the highest returns next year, 45 per cent voted for agricultural markets, well above the 19 per cent going for precious metals.

Investor interest, a new phenomenon, is largely thanks to strong fundamentals. Robust demand in emerging economies has drawn down stocks to record lows and despite a record food harvest this year, farmers cannot replenish grain stores fast enough to buffer them from weather-related shocks. In China, cereal stocks fell significantly between 2000 and 2004 and have not recovered in recent years.

Its booming economy means people are spending more on meat, and feeding more animals requires greater amounts of corn and soy. This year China became a net importer of corn, also known as maize.

That is one of the reasons why corn prices will stay high into 2008, despite a substantial rise in plantings in the US, says Luke Chandler, a commodities analyst at Rabobank in Australia. The other is the pressure from biofuels. "The US already uses a quarter of its crop for biofuel and there is talk of it increasing this to 40 or 50 per cent by 2020."

Corn prices passed record prices of $175 a tonne earlier this year, and although it has fallen from its peak, at $150 a tonne it is still 50 per cent above the average for 2006.

Weather forecasts suggest that next year's production may be hurt by dry weather, says James Nuttall, director of the UBS bank's commodities business in London. "We could see a fairly dry period in some of the corn-growing regions in North America and that could lead to production volatility."

All that creates a tempting world market for African farmers who manage to produce a surplus for export. Corn production could decline again this year if farmers switch to growing wheat, now priced at $400 per ton after bad weather conditions in Europe and Australia drastically reduced supplies.

Rabobank's Mr Chandler says there could be an extra 40-50 million tons of wheat entering the market next year and that would take much of the squeeze out of the market. Farmers should expect high volatility in pricing however. There may be brakes put on using corn for biofuels in countries like China where food security is a major issue.

Biofuel production is leading a major structural change to the soft commodities market. While cereal use for food and feed increased by four and seven per cent respectively since 2000, the use of cereals for industrial purposes, such as making biofuels, increased by more than 25 per cent, according to a recent report from the International Food Policy Research Institute (IFPRI). That shows the extent to which demand has changed in recent years, and why supply responses must be much quicker.

Biofuels are also driving strong investor interest in oilseeds. Palm oil and soybean oil, both sources of alternative energy, are increasingly attractive to clients, says Mr Nutall at UBS.

This year's price movements show why. Average US soybean and soy oil prices have increased 41 per cent this year, while Malaysian palm oil prices are up by 54 per cent and EU rapeseed prices are 20 per cent higher.

Soybeans have seen a recent rally based on record crude oil levels serving as a reminder of the need for fuel substitutes. Palm oil is attractive owing to its relatively long growing time, which makes it slower to respond to supply shortages.

Cotton has also benefited from biofuel demand, indirectly. Long a loss-making crop in Kenya, prices for the 2007 cotton are expected to jump by up to a quarter as acreage in the US declines with growing production of the higher priced cereals.

"Cotton acreage is down 18 per cent and some people expect it to fall even further. That has helped reduce some of the supply and demand imbalance and eroded a build-up of inventories," says Mr Chandler.

A steep increase in prices on the New York Board of Trade suggests traders are counting on more positive fundamentals for cotton too.

Consumption is on an upward trend in emerging economies like China and India although there is some evidence that higher prices are dampening demand among processors who can switch to alternatives.

"It is very much one of the markets in balance right now," says Mr Chandler. How it works out could be important for the regeneration of Kenya's cotton sector.

Like other crops, cotton is being added to a basket of commodities as investors try to hedge against rising inflation.

"We're seeing lots of clients looking for long-term exposure," says Mr Nuttall of UBS. "There's very strong appetite for agricultural and soft commodities. They are a natural hedge against food inflation."

There are signs that soft commodities, seeing much less growth beside the agriculturals, are going to pick up too. Coffee has already gained a high profile as prices on international markets surged to near 10-year highs in volatile trade this year.

That was mostly fuelled by speculation of a downturn in arabica's biennial production cycle in the world's biggest producer Brazil. It now appears to have produced above expectations.

Robusta is more bullish for 2008, says Mr Nuttall, driven by lower output from Vietnam and rising demand in Asia. But higher Arabica quality in Kenya should still leave farmers happy with prices.

Opinions on sugar remain divided. The market is one of the main underperformers among the agricultural range thanks to a huge surplus in India and Brazil. The average price for 2007 was down 33 per cent on the prior year.

But there has been some rallying in prices in recent weeks and some traders are bullish on both raw and white sugar based on higher consumption in Asian diets and in ethanol production in Brazil, and a drop in Indian production.

Unlike other commodities such as precious metals, softs and agriculturals have much more capacity to react to supply shortages. It can take years to find a new mine and then extract the metal but most crops - apart from coffee and cocoa - can be planted and grown in a year. More elastic supply means prices are unlikely to reach those seen recently in metals.

"Prices will keep a premium versus the historical trend but agriculture is cyclical," predicts Mr Chandler. "Supply can respond and prices act as a strong signal to farmers."

But rising investor interest is pushing soft commodity prices away from straightforward supply-demand equations. Last year the volume of traded global agricultural futures and options rose by almost 30 per cent, according to IFPRI. The volume is set to keep growing as bullish supply and demand conditions continue into 2008.