Why did the price of potash plummet?

Beyond water, sunlight and dirt, plants need three fertilisers to thrive—fixed nitrogen plus soluble phosphorus and potassium. These three nutrients lack natural high-grade alternatives and must either be mined, as are potash—from which soluble potassium comes—and phosphorus or industrially produced as is fixed nitrogen from petrochemicals.

In the case of potash ($20bn global market), nearly 70% of global supply used to be controlled by a price-regulating duopoly: Canpotex (the overseas sales cartel of Mosaic, Agrium and Potash Corp.) in North America and the Belarusian Potash Corporation (the marketing arrangement between Belaruskali of Belarus and Uralkali of Russia) or BPC. BPC alongside Canpotex had effectively functioned as a duopoly, or “Potash OPEC”, regulating prices by controlling output and minimising competition.

Consequently, market watchers, most notably legendary investor Jeremy Grantham in his July 2012 quarterly letter, were warning of possible potash shortages in the years to come and the possibility of duopolistic price gouging was reasonably feared.

This, however, did not come to pass. On the contrary, and to many investors’ surprise, the price of potash actually went down. Key to the decline in price was the dissolution on July 29, 2013, of the BPC, which at the time of the breakup controlled approximately 43% of global potash exports. As with many cartels, the cause of the dissolution was a difference in marginal costs of production among its members. In this particular case, Uralkali, which accounted for roughly 53% of BPC’s production in 2012, believed its marginal cost of production—$51-62 per tonne, or the lowest in the market—gave it a strong advantage over its competitors in Europe and North America. This naturally led the company to forgo the maximisation of per unit price prefer and instead maximise output and economies of scale—something that is better done outside of a cartel.

The move allowed Uralkali to increase its share of the global potash export market from 17%, when the arrangement ended in August 2013, to 23% for the first half of this year. The end of the marketing arrangement also resulted in a slide in the spot price for standard-grade potash—from $462.50 per tonne in January 2013 to $287.00 per tonne in September 2014.

While the old BPC marketing arrangement does not appear likely to come back anytime soon, there are signs that potash prices are set to rebound. Uralkali, for example, has set new higher prices for Latin America at $380/tonne and is pushing for a hike in prices to $305/tonne during new contract negotiations with China.

Prices are unlikely to reach cartel-era levels, however. In the short term, potash consumers will seek to take advantage of low prices by front-loading their purchases, thereby eating into future demand. And, while potash is a vital element in fertilising farmland, it does not need to be used every year—many farmers apply potash every other year. Further compounding this demand-side issue is the fact that recent record harvests have dropped crop prices considerably below their previous levels, which may encourage farmers to minimise their costs—either to maintain their profits or because of empty pockets.

On the supply side, price rises will be dampened by the availability of extra supply as a result of capacity-expansion investments made prior to the cartel breakdown. Most notably, BHP poured $3.8bn into a massive potash mine in Saskatchewan, Canada, which Scotiabank believes could add 15% to the global potash supply when operational—though it will likely cost more than $15bn to finish and is not expected to open before 2020. Rio Tinto is also pursuing its own, albeit smaller, potash mine in Canada. In light of the ensuing price declines of roughly 30% and the increased global production—from 51m tonnes in 2012 according to Uralkali to 59m tonnes in 2014, new projects have either been cancelled or put on hold until prices rise further. For example, BHP’s mining project in Canada requires prices of around $500/tonne to justify completion.

All of which leaves the potash market in a sweet spot where prices are lower than in the duopoly years but above the price crash that followed the end of the cartel arrangement. Recent bumper harvests aside, Jeremy Grantham may still have legitimate worries about mankind’s ability to feed itself in the years to come, but lack of soluble potassium for crops isn’t likely to be one of them.

This post first appeared on GE LookAhead

Author: Drew J Hart is a writer for GE LookAhead

Image: An employee checks an above ground store of processed potassium salts at a Uralkali potash mine near the city of Berezniki.REUTERS/Sergei Karpukhin