2 Upgrades for Deere; What’s the Story?

The short answer: China, corn, and rain.

After dropping 19% in the first two weeks of May, stock in Deere & Co. (DE) has been gaining on an unusual combination of factors. The resumption of trade talks between the US and China, a spike in the price of corn, and unseasonably poor weather in the rich farm belt of the Midwest have all come together and boosted a company that had been having trouble gaining traction. Deere is on an upward trajectory now, having gained 23% since May 17.

The China Factor

This is the one that’s been getting all the headlines. The ongoing dispute between the US and China has seen both sides initiate protective tariffs and threaten more drastic actions, and global financial markets and trading networks have been feeling the pressure. That pressure has eased in recent days, however, as Presidents Trump and Xi have agreed to meet personally at the upcoming G20 summit.

Both leaders are expressing optimism ahead of the meeting. President Trump has said, “I think we have a chance. I know that China wants to make a deal,” while Xi has added, “The key is to show consideration to each other’s legitimate concerns.” The upbeat talk from the Presidents has buoyed markets in recent sessions.

In the last week Deere has gained from the happy talk on trade, but the stock’s run up began several weeks earlier. Shares in Deere have been on an upward trajectory since bottoming out on May 17.

Here Comes the Rain Again

And now we get to corn and rain. The weather in the Midwest has been unusually cold this year. There are snow warnings in the Colorado Rockies, as low down as 9,000 feet, while heavy rains and cold snaps have delayed the planting season in the nation’s most productive farming regions. The delays have lowered forecasts for the 2019 harvests and tightened the worldwide crop supply. At the same time, demand remains high. The predictable result is higher agricultural prices.

The most immediate gainer there is corn. Corn bottomed out on May 10 and has risen 31% since then to reach a five-year high. Wheat is also up, having gained 29% since May 10, although it has not reached record levels.

Notice the dates – corn and wheat both started rising just seven days before the price of Deere’s stock started climbing. The rising prices assured farmers that they would not be financially ruined by the looming bad season, and they began making needed investments in equipment purchases and maintenance. Deere is a direct beneficiary of those investments, and the stock price reflects it.

Josh Brown, CEO of Ritholtz Wealth Management, agrees that Deere is gaining more from corn than easing trade tensions. He points out, “If you take a look at the chart, Deere started to break out in the middle of May. It stopped trading on tariff headlines, started trading on corn prices which are now going up.”

This Deere is Running

Wall Street’s analysts have taken note – a 23% gain in a lagging industrial stock is sure-fire attention-getter. Writing from Baird on June 16, Mircea Dobre sums up the support for DE shares: “Corn has rallied sharply breaking out of a five-year range as persistent wetness has raised supply concerns. Prices seem poised to move higher; this helps farm economics which should drive equipment demand.” In line with his optimistic comment, Dobre upgraded DE shares to a ‘Buy’ rating.

To go along with his upbeat outlook, he also raised his price target by 35%, to $175. That may turn out to be too low, however, as DE’s price has already run up to $166. Dobre’s target gives the stock a 4.8% potential upside.

Five-star analyst Stephen Volkmann, of Jefferies, has also upgraded DE, moving the stock from ‘Hold’ to ‘Buy.’ He cites the tighter crop supplies in the global market and consequent higher prices in support of his upgrade, saying, “Positive momentum in farmer net income support double-digit large equipment growth through 2020.”

Elaborating on the improved outlook for farmers, Volkmann said in a June 24 note, “We believe farm fundamentals are finally turning. A tightened global crop supply demand balance and positive momentum in farmer net income support double-digit large equipment growth through 2020.” Volkmann’s price target, $190, indicates room for a 14% upside.

Overall, Deere has a ‘Moderate Buy’ rating from the analyst consensus, based on 9 buys, 3 holds, and 1 sell assigned in the past three months. These ratings still partially reflect the more downbeat outlook that prevailed in the early part of May; the higher price targets and ratings upgrades that are now starting to come in have not had time to fully reflect in the aggregate ratings. The same effect is visible in the price target. The average PT of $163 still includes lower values assigned in past weeks; since then, the stock has risen fast and now trades for $166. If current trends hold, expect the price target to adjust as analysts reevaluate the stock.