Merricks Capital says there is money to be made on the buyside in palm oil, wheat and soyabean options in 2016, as these markets do not yet fully reflect the impact of supply and currency fluctuations that the Australian fund expects.
Merricks, one of few Asia-based hedge funds specializing in agriculture markets, believes crop-damaging weather will open up investment opportunities in palm oil, yields for which are likely to be hit by dryness linked to an El Nino weather event.
Palm oil stockpiles in 2016 are expected to drop 10 percent year-on-year as output gets stunted by dry conditions in top producers Indonesia and Malaysia, said Adrian Redlich, Merricks' founder and chief investment officer. The fund manages $350 million for European and US clients, including pension funds.
"The slowdown in palm oil production is not priced in by the market," Redlich told Reuters. "Given the heavy macro environment, markets are sceptical of pricing any upside."
Palm oil futures have risen only 0.7 percent this month as a slowdown in China's economic growth has crimped demand in the world's No 2 consumer of the vegetable oil, keeping a lid on gains.
Merricks, however, expects top importer India to pick up some of the slack as a poor domestic canola crop, hit by lacklustre monsoons, prompts it to buy more vegetable oils.
Around 30 percent of Merricks' soft commodities fund is long vegetable oils, mainly palm, rapeseed and soyabean. Merricks is short US wheat, corn, cattle, sugar and cotton.
Last year the soft commodity portfolio, Merricks' main fund, lost 4 percent, but this year it is targeting a double digit percentage gain, Redlich said.
At-the-money implied volatility for options is currently near record lows for both calls and puts, suggesting rangebound price expectations.
But price stability at a time of acute uncertainty due to El Nino, the onset of the South American harvest and ahead of the US planting season is "an aberration", said Redlich.
Soybean prices, currently near seven-year lows, could come under further pressure as US farmers plant more soyabeans at the expense of wheat and corn, according to Merricks.
Higher exports by No 3 soyabean supplier Argentina, helped by an easing of export curbs and a weaker peso, will also drag on the market.