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South American fishermen probably were the first to recognize the weather phenomenon we know as "El Nino," and named the event for the Christ child because the periodic pooling of warm water off the coasts of Peru and Ecuador often appeared shortly after Christmas. In an El Nino, weakening Pacific trade winds allow warm water to replace the normal upwelling of nutrient-rich cold water. These cold waters contain the plankton upon which anchovies feed, thus driving the anchovies far offshore and decimating fish catches. Although the impact on the fishing industry probably was the earliest recognition of the El Nino phenomenon, it is now known to have a much more wide-reaching effect on temperatures and rainfall patterns in several areas of the world.

On average, an El Nino has occurred every 4.9 years since 1950. Recent El Ninos (often called "warm episodes") have begun more often in the spring and summer rather than during the winter holidays. Changes in air pressure differentials begin the El Nino process by decreasing Pacific trade wind strength. The Southern Oscillation Index (SOI) measures the air pressure differential between Tahiti and Darwin, Australia and usually is strongly negative during El Nino episodes. The reduced trade winds allow warm water to pool off the western coast of Peru and back halfway across the Pacific Ocean along the equator. Hence, El Nino events are characterized by abnormally warm sea surface temperatures (SSTs) along that same area. Meteorologists monitor and measure SSTs regularly in areas delineated by latitude and longitude lines. An El Nino is in force if SSTs are one standard deviation warmer than normal (about 1 degree Celsius) for at least a month, or average one standard deviation warmer for three months.

The current El Nino Southern Oscillation (ENSO) episode (as it is formally known) began in April 1997 and already looks like one of the strongest this century, with SST anomalies approaching those of the intense 1982/83 episode. Scientists at the National Atmospheric and Oceanic Administration (NOAA) are predicting that this El Nino will intensify into the end of 1997 and persist into early next year.

The impact of El Nino on agricultural production in several areas around the globe can influence prices for a broad spectrum of commodities. Its effect on U.S. weather may have implications for energy supply and demand as well. This report will highlight the historical and potential effects this major weather phenomenon could have on production, trade and futures prices for a variety of agricultural markets as well as energy products.

Fish Meal

El Nino events are defined by abnormally warm sea surface temperatures off the Western coast of Peru, which have a detrimental impact on fish meal production by driving the fish further offshore in search of cold water. The El Nino phenomenon gained widespread recognition in the 1972/73 soybean crop year when Peruvian fish meal production and exports declined sharply, boosting demand for soybean meal as a replacement and causing soybeans to rally to historic high prices.

At that time, Peru accounted for 35%-40% of world fish meal production but about 55% of world exports; Chile's production was at very low percentage of the overall total. Indeed, Peruvian fish meal was second only to U.S. soybean meal in the world protein market, accounting for about 12% of the world trade in meals. In 1970, Peruvian fish meal exports equaled 51% of U.S. soybean meal exports (on a tonnage basis); because of the high-protein content of fish meal (65%) relative to soybean meal (44%), Peruvian fish meal exports equaled 76% of U.S. soybean meal exports on a protein- equivalent basis. When fish meal production declined 1.038 million metric tons (MMT) in 1972 and an additional 0.474 MMT in 1973, the world turned to U.S. soybeans and soybean meal to replace the lost protein. As a result, the world consumed a record U.S. soybean crop and drove prices to their all-time highs.

An El Nino threatens to reduce both Peruvian and Chilean fish meal production in 1997 and possibly in 1998 as well. While combined production increased in 1982 (the first year of a severe El Nino), it declined in 1983 despite a production increase in Chile. (There is some thought that fish move southward from Peru into colder Chilean waters in an El Nino, but in some years Chile's production also is adversely affected.) The most recent El Nino, in 1994, lasted only two months, was extremely weak and had no apparent effect on production; the current El Nino episode is already strong and has lasted longer than that of 1994, so the 1982/83 experience may be more instructive for this year's outlook. Indeed, Peru announced an anchovy fishing ban starting July 18 because fish stocks already were declining.

Market Impact-The major bull market in soybean meal in 1972/73 that resulted from the reduced supplies of fish meal encouraged expanded production of soybeans in the United States and South America, increasing world soybean meal export supplies. Meanwhile, Peruvian fish meal production was unable to recover to its pre-1972 level prior to the next severe El Nino in 1982/83. By 1982, Peruvian fish meal exports accounted for only 2% of the world meal trade on a non-adjusted basis. Since then, Peruvian fish meal production has recovered to its pre-1972 level of 1.9 MMT and Chilean fish meal production has grown to about 75% of Peruvian production.

Although Peruvian and Chilean fish meal exports combined account for only 5% of world meal trade, their higher protein content requires about 48% more soybean meal in replacement. Thus, a 27% reduction in combined production, such as occurred in 1983, would be equivalent to 1.34 MMT soybean meal, or about 21% of the USDA's forecast for 1997/98 U.S. soybean meal exports. In an environment in which export demand for U.S. soybean meal is likely to be boosted by a reduction in South American soybean meal supplies, the El Nino could increase U.S. exports further, until South American supplies become available next spring. China is the world's largest fish meal importer and Peru's largest customer. Additional U.S. soybean or soybean meal exports that developed in compensation for lost fish meal supplies would increase prices in those two markets, although the extent of the rise would depend on the threatened adequacy of U.S. carryover for 1997/98.

Soybeans

Because an El Nino was present during the last two major U.S. droughts (1983 and 1988), there developed an erroneous idea, reported in the popular press, that El Ninos were associated with midwestern droughts. In truth, the National Weather Service considers there to be no relationship between El Nino episodes and midwestern weather. However, in years when an El Nino began in the spring, as the current one did, U.S. soybean yields tended to be very high. The exception was 1953, when the El Nino that began in April lasted only two months. In the last three instances when an El Nino episode began in the spring, U.S. soybean yields declined the following year, but this probably was a coincidence: Drought caused low yields in 1983 and 1988 while flooding was the culprit in 1993. Also, there were many El Nino years when the following year's yields increased.

El Nino episodes are associated with above-normal precipitation from November through February in Argentine and southern Brazilian soybean areas; northern and northeastern Brazil tends to be abnormally dry from June to the following March when an El Nino occurs. Because most of Brazil's crop is grown in the South, an El Nino could have mixed effects on production, depending on whether the rains are so excessive as to be detrimental rather than beneficial. There is a slight tendency for Brazilian soybean yields to be good when an El Nino prevails after planting.

The relationship between El Ninos and production in Argentina is not as well defined. Argentine soybean yields in El Nino years had a slightly greater chance of being high, with the exception of 1970, 1983 and 1987. However, Argentine and Brazilian yields tend to move in opposite directions, suggesting that only one of the two countries may have a problem. The relationship between El Ninos and South American yields appears too weak to draw any conclusions about the 1998 Argentine and Brazilian soybean crops.

Market Impact-The world is counting on record South American production in 1998. The slight tendency for higher South American soybean yields in an El Nino year should provide some comfort to soybean users, but the relationship is very weak. Because Brazil devotes much more acreage to soybeans than Argentina, any problems with the Brazilian crop would have a larger impact on world supplies and prices than a problem in Argentina. A large U.S. soybean crop in 1997 is arguably an even more urgent priority than hefty South American production in 1998, and the historical relationship favoring good U.S. yields should remove some price potential from any weather-scare rallies this year. However, because droughts followed El Nino events in 1983 and 1988, the market may heighten its expectations for an U.S. drought in 1998. Even though the El Nino/drought relationship is a spurious correlation, traders may choose to focus on it, especially since it will have been 10 years since the last U.S. drought.

Tropical Oils

El Nino episodes are associated with drought in Southeast Asia, the location of most of the world's tropical oil production. Although the drought occurs coincident to or just a few months after the onset of an El Nino, it takes a year or more to show up in production because tropical oils come from tree crops. For example, Philippine copra production lags rainfall by about 15 months. The last four El Nino events have been associated with a drought in the Philippines and below-normal production of copra, from which coconut oil is produced. In 1993, reflecting the effects of the 1991/92 El Nino, copra production did not decline from the previous year because it was already at a low level. However, following the El Nino episode of 1982/83, the one that appears most similar to the current one, copra production declined 34%. Because of the long-time lag between rainfall and production, the current El Nino is not likely to affect Philippine coconut oil production until the last half of 1998.

In the case of palm oil, there is about an 11-month lag between below-normal rainfall and its detrimental effect on production, which would indicate an adverse impact on output beginning in the spring of 1998. Palm oil production has expanded rapidly in Malaysia and is growing without interruption in Indonesia. Production declines are rare. The El Nino events in the 1960's and 1970's did not reduce palm oil production because area under cultivation was expanding and yields were increasing as trees matured. However, a notable decline in Malaysian palm oil production occurred in response to the 1982/83 El Nino. Subsequent El Nino events appeared to affect production and yields in the year of occurrence rather than with the expected lag.

Market Impact-Palm oil accounts for 42% of total world vegetable oil trade, about double the share contributed by soybean oil. When reduced palm oil supplies cut export availabilities, sending users to substitute with seed oil (e.g. soybean oil), the change in export levels for the seed oil is disproportionally high relative to the percentage decline in palm oil exports. Combined, however, the seed oil share of world trade about equals that of palm oil.

Coconut oil and palm kernel oil (the lauric oils) account for 10% of world vegetable oil trade. Reductions in these two oils have a less widespread effect on the general level of world prices and trade for two reasons: (1) they account for a smaller share of total world trade; and (2) they are oils that have special properties (solid at room temperature) and specialized uses that make substitution with soft oils, such as soybean oil, impractical for all applications. However, the price advance in the lauric sector resulting from a production decline would have an effect on the level of prices for other oils as well.

World oil stocks are fairly low this year following reduced world oilseed production in 1996 and record Chinese oil purchases. Hence, there is not a large cushion of stocks to absorb a production decline in coconut, palm kernel and palm oils. If such a decline occurs, it could significantly tighten world vegetable oil supplies, resulting in a bull market for oils in general. Hence, a bull market for soybean oil could begin in 1998.

An El Nino is often erroneously associated with drought in the U.S. Corn Belt in the year following the episode. This belief can be partially explained because two El Ninos (1982/83 and 1986/87) were followed the next summer by serious drought in the United States that severely cut yields and production. However, there is only a minimal correlation between an El Nino event and a U.S. drought the following year. There have been 10 moderate to very strong El Nino events since 1950, but the United States suffered a drought only four times during the same time period, and only two of those followed an El Nino. Indeed, the relationship is more positive than negative. Of the 10 years following El Ninos that we examined, two years produced record U.S. yields, one year set the second-highest yield ever and another two years resulted in the third-highest yields on record. (In 1970, yields were cut significantly due to southern leaf blight rather than drought.) Thus, even though the term "El Nino" conjures up both fear and excitement in the markets, it does not necessarily foretell of adverse grain production in the United States.

However, there is a strong correlation for dryness during the year that the El Nino develops for other parts of the world. The strongest correlation is for dryness in Australia, India and South Africa. We will pay most attention to Australia and South Africa due to their roles in world wheat and corn production. Note that although the 1994 El Nino was rated only moderate, it produced a more severe effect on Australian wheat and South African corn production than the very severe El Nino of 1982/83 because of its timing.

Australian Wheat Production

During the six El Nino years since 1970, Australian wheat production has declined five times from the previous year. In those five years, the production decline averaged 4.2 million tonnes. However, in terms of percentage change year-over-year, Australian wheat production has declined an average of 28% in those five years. The one year Australian wheat production did not decline was 1992 when the moderate El Nino dissipated in the southern hemisphere autumn, thus having little impact on yields. During the most recent El Ninos that occurred during the southern hemisphere growing season (1982, 1987 and 1994), Australian wheat production declined an average of 6.3 million tonnes, or about 38%, from the previous year. Based on this historical percentage, 1997/98 production could decline 7 million to 9.5 million tonnes from last year's level of 24.0 million to total 14.5-17 million tonnes versus current USDA forecasts of 18.5 million tonnes. (Australia places 1997/98 wheat production between 15 million and 16 million tonnes). Because Australian production exceeds domestic consumption, any decline in the Australian crop represents a decline in exports. In 1994, Australian wheat yields dropped 0.86 tonnes per hectare and abandonment increased, resulting in production falling to 8.9 million tonnes from the previous year's level of 16.5 million. Domestic consumption fell 200,000 tonnes to 3.9 million that year, while exports fell to 6.3 million tonnes from 13.7 million the previous year.

The USDA is currently projecting Australian 1997/98 wheat exports at 13.5 million tonnes, which could be reduced 5-7 million tonnes if history is any indication. If so, world wheat carryover supplies would likely decline by a similar amount, sending the projected stocks-to-use ratio to 17.9% from 19.1%. Hence, we would expect higher futures prices as well as heightened volatility into the fall/winter time period.

South African Corn Production

Although not as strong as the El Nino/Australian wheat production relationship, the South African corn crop also tends to decline during an El Nino year. During the six El Nino years since 1970, South African corn production has declined four years by an average of 3.2 million tonnes from the previous year's production. There were two years when production did not decline during an El Nino. In one, 1992, the El Nino dissipated early in the growing season before having an impact on yields. In 1976 (a moderate El Nino), South Africa enjoyed a 2.4-million-tonne production increase while Australian wheat production fell only 200,000 tonnes. During the most recent El Nino years in which production declined (1982, 1987 and 1994), South African corn output fell an average of 4.3 million tonnes, or about 39%, from the previous year.

If history repeats, 1997/98 South African corn production would decline about 2.5 million tonnes to about 6.0 million tonnes. This compares with the current USDA forecast of 8.5 million tonnes, and would cause a tightening in the world corn balance sheet as carryover stocks would likely decline by a similar amount. Projected world stocks-to-use ratios would then decrease to 14.4% from 14.8%, suggesting somewhat higher prices and increased price volatility. Because the world corn balance sheet is much tighter than that for world wheat, corn prices could be much more sensitive than wheat to these type of developments and spike upward if the El Nino causes losses in South African corn production similar to those seen in the most recent El Nino in 1994 when production fell 64%, versus the previous year.

This section examines the impact of 11 previous El Nino events on global cocoa, coffee and sugar production, and projects the likely effect of the current El Nino. Because early indications are that this year's El Nino, which began in April, will be the strongest since 1982/83, we are using that year as the best point of comparison. Each of our market studies includes a section outlining the expected regional crop impact attributable to an El Nino. The figures show global production over several decades.

Cocoa

Anticipated Regional Effects-An El Nino has varying effects on different parts of the cocoa-producing world. Drought is the most significant result in Southeast Asia, which contains two of the world's foremost cocoa origins-Malaysia and Indonesia (accounting for roughly 16% of global output). From a statistical viewpoint, the drought is expected to extend from June to the end of the year. This year, El Nino-related crop concerns are widening the cash/futures differential for the region's exports. For example, in the New York market, the average premium for Sulawesi beans was about $19 per tonne in June, but had widened to $25 by July 18.

For West Africa, which produces about 65% of the world's cocoa, the impact of an El Nino is disputed. Indeed, some weather specialists argue that it hardly exists because the region's rainfall is connected to Atlantic Ocean weather systems; El Ninos form in the Pacific Ocean. Nevertheless, there are indications that a strong El Nino is likely to result in reduced West African precipitation, particularly during the latter part of the year.

A more diverse El Nino picture is apparent in South America. Ecuador tends to receive unusually heavy rainfall from November into April, which hurts production. Ecuador is not a big cocoa producer (accounting for less than 1% of global cocoa output), but much of its cocoa has unique aroma characteristics that are sought by various specialized confectionery manufacturers. In early July, a spokesman for the country's National Cocoa Exporters Association said that an El Nino could be expected to reduce 1997/98 output by about 20%. This concern appears to be reflected in the prevailing price structure, with the Superior Seasons Arriba cash price trading at about $83 per tonne over New York futures as of July 18, up from the June average of $72.

On the other side of the continent, in Brazil, an El Nino is likely to result in reduced precipitation in Bahia, the country's principal cocoa-growing state. (Bahia is adjacent to the northeast region of Brazil, where drought conditions are expected to set in around July and persist into March.) The El Nino's effect on Bahia's crop is obscured because the state's cocoa production has been declining for almost two decades for various reasons, such as crop disease and farm neglect.

Potential El Nino Impact On World Production-Global cocoa production declined an average of 11% from the previous year's level in eight of the 11 El Ninos since 1951. However, two crop years (1982/83 and 1983/84) were affected by the 1982/83 El Nino. (Although the 1982/83 El Nino lasted for an exceptionally long 17 months, weather specialists simply characterize this as forming part of a single El Nino.) Year-over-year world cocoa production changes for the 11 El Nino years ranged from _20% (1951/52) to +16% (1969/70).

Initial indications are that the current El Nino is the strongest since 1982/83; while there is no consensus as to its probable duration, some weather specialists believe it will be on the long side. We can identify four El Ninos that we consider both strong and long (lasting for more than six months): 1951/52, 1957/58, 1972/73 and 1982/83. In each of these El Nino years, world cocoa output fell relative to the previous year, ranging from down 20% in 1951/52 to down 10% in 1982/83 and averaging a decline of 14%. We are assuming that the current El Nino will produce comparable results and expect 1997/98 cocoa output to decline at least 10% versus the previous year, to 2.4 million tonnes. If this scenario were to materialize, it would be a potentially bullish market development, despite the very high levels of global cocoa stocks.

Coffee

An El Nino's impact on global production tends to be less clear-cut for coffee than for cocoa. That is partly because there is relatively less crop-year uniformity for the major coffee origins. In some instances, an El Nino may not affect output directly, but rather cause harvesting disruptions and bean quality problems. Broadly speaking, we expect overall robusta production to be more adversely affected by an El Nino than arabica output.

Anticipated Regional Effects-In Central America, the phenomenon associated with an El Nino is dryness, which may last over much of the region from July through the early harvest period in late September to early October. The region is a principal source of arabica coffee for the United States, and if significant crop losses occur, that development should support price futures, especially in light of the prevailing relatively tight U.S. availability of quality grades.

In Colombia, another major source of quality arabicas, some of the more southerly coffee-growing areas may see excessive rainfall beginning in late 1997, which has the potential to interrupt harvesting and hurt output. Colombian weather specialists do not anticipate crop losses in 1997/98 (October-September), but are concerned that a possible increase in ultraviolet rays due to unusually clear skies in some areas could hurt flowering, and hence output, during the next year in parts of the country. Neighboring Ecuador also could see excessive rainfall, beginning about November, by which time harvesting has usually been completed. Early arrival of the rains, however, could trim production.

Unusually heavy rain (early in the year) also is a potential problem for parts of Brazil's coffee belt. Indeed, some areas reported five times the normal precipitation level between mid-March and mid-June this year. The wet weather has caused harvesting delays and concern that bean quality may have suffered.

In West Africa, strong El Ninos tend to produce dryness that begins in August and has the potential to hurt the region's robusta production. (Harvesting in the leading regional origin, Ivory Coast, runs roughly October-March.) In parts of East Africa, an El Nino is linked to excessive rainfall that may last October- April and hurt output. East Africa's chief origins include Ethiopia, Kenya and Tanzania (which are mostly arabica producers) as well as Uganda, an important robusta source.

In Asia, El Nino- related production losses are potentially substantial in Indonesia, the world's foremost robusta producer, whose crop year begins in April. In an El Nino year, the country may experience drought from June to November, a condition that also could hurt robusta production in nearby Vietnam. Philippine output also could be adversely affected. Finally, in India, which grows arabica and robusta types, excessive rainfall in southern areas (generally October-December) may interrupt harvesting and cause quality problems.

1Forecast

Source-USDA

1997/98 Production Forecasts-Table 4 shows seasonal coffee output for leading origins whose coffee-growing areas could be hurt by an El Nino. The table includes the USDA's initial forecasts of 1997/98 output, which were released in the June Tropical Products: World Markets and Trade report. The forecasts have not taken possible El Nino effects into account and thus serve as a useful benchmark of anticipated production levels if no El Nino-related crop damage materializes.

Only two of the countries in the table, Ivory Coast and Indonesia, are expected to see production decline in 1997/98, falling 18.5% and 10.5%, respectively, versus 1996/97 levels. Thus, if the current El Nino hurts production in these two countries, the severity will be magnified because the crops already were expected to be low.

1997/98 forecast based on USDA data

Potential El Nino Impact On World Production-Figure 13 depicts world seasonal coffee production since 1960/61 and covers eight El Nino events (not including the current one). The strongest El Nino, 1982/83, resulted in a 9% decline (about 5 million bags) in 1983/84 global coffee production (Brazil excluded). The other "strong" El Nino was in 1972/73, which was followed by a global production drop of roughly 1 million bags (2%) in 1973/74. Two El Ninos classified as being above "moderate" strength occurred in 1965 and 1992; world coffee output fell by about 2 million bags (5%) and 4 million (6%) in 1966/67 and 1993/94, respectively. The other El Nino events in this period were classified as having moderate or below-moderate strength, and had no discernible crop impact.

If the El Nino that began in April 1997 has the comparable impact of the 1982/83 episode (its most similar predecessor), then 1998/99 global production (Brazil excluded) may be expected to fall about 9% versus 1997/98 levels. (The USDA is forecasting Brazil's 1997/98 output at 28.0 million bags; a 9% production drop for non-Brazil production would result in a total global 1997/98 production figure of about 96.0 million bags.)

Sugar

Anticipated Regional Effects-Table 5 pinpoints potential El Nino-related problem areas, giving traders a focus to watch in an El Nino season. The table provides three important pieces of information: (1) the major sugar-producing countries most likely to be adversely affected by an El Nino; (2) their anticipated 1997/98 production (which does not take an El Nino into account); and (3) the type and length of an El Nino's theoretical impact.

Source: USDA (production data)

It should be stressed that the time periods shown in the table are only approximate, and that a dry period may begin earlier than shown or, depending on the El Nino's intensity, may not occur at all. A case in point is Southeast Asia. Normally, we would expect dryness to begin in Indonesia in June and extend to the Philippines by November; this year, according to Philippine press sources, dryness has set in early, with eastern regions of the country receiving only about 40% of normal June rainfall. Another factor to consider is that the El Nino impact could extend to sugar-producing countries not included in the table, but which are relatively close to countries most likely to be affected. For example, drought conditions in South Africa probably would also affect Zimbabwe. Similarly, an El Nino impact in Southeast Asia could extend to Thailand, which is projected to account for about 5.2% of global sugar output in 1997/98. Already, traders in Asia have reported that fear of an El Nino has caused a widening of the Thai raw premium to futures for 1997/98 contracts.

Potential El Nino Impact On World Production-Sugar cane has a variable growing period, with maturity ranging from 10 months (in parts of Louisiana) to two years (in Hawaii and some areas of South Africa). Overall, the average age for planted cane is about 16 months; for later ratoon crops it is roughly 12 months. Because of these overlapping growth cycles, the global crop impact of an El Nino is difficult to define. Also, given cane's lengthy growing period, an El Nino's impact is more likely to be seen in the season following the year in which the El Nino began. The International Sugar Organization recently noted that, in Brazil, the impact of the current El Nino "will only be felt in 1998/99." Most beet-growing areas tend not be affected directly by an El Nino.

Only twice (1965/66 and 1992/93) did world sugar output decline in years in which an El Nino began. However, production fell in the season following the year in which an El Nino started six out of 11 times since 1951. In two of these seasons (1954/55 and 1988/89), the decline was nominal, and one could argue that world production might have expanded in the absence of an El Nino.

By far the most significant crop impact was in 1983/84, when world sugar output fell to 96.4 million tonnes (about 5%) from 101.7 million the previous year. Following the El Nino that began in July 1982, much of the decline was accounted for by production losses in India and South Africa. In other years, the declines ranged from a nominal 100,000 tonnes to about 1.4 million tonnes.

Our preliminary forecast of world 1997/98 sugar output (based on F.O. Licht production statistics), is about 123.5 million tonnes. Global output in 1998/99 would fall to about 117.5 million tonnes if the current El Nino has a comparable crop impact to its 1982/83 predecessor. We project probable losses attributable to an El Nino weaker than 1982/83 at a modest 1-2 million tonnes.

There seems to be a good chance that the United States probably will experience weather conditions that differ from normal due to the current El Nino, but that is far from certain. In an El Nino, the subtropical jet stream shifts north, enabling it to dominate over its northern counterpart. Past El Ninos have caused higher rainfall and warmer-than-normal temperatures in the west and across the southern two-thirds of the United States during the episode. In addition, some of these effects have rippled into the midwest and northeast. Meanwhile, the Plains and Rockies tend to get cooler-than-normal weather.

In an El Nino year, energy traders should pay particular attention to the heating oil, natural gas and electricity markets, given their roles for cooling and heating usage. This year, natural gas stands out because of the tight supply/usage outlook we hold. Historically, El Nino's peak impact has been felt in the United States from November through March, coinciding with the months in which natural gas and heating oil futures are typically the most volatile. (There is no history on the behavior of electricity futures because the contracts were first listed in March 1996.) Here's how futures behaved during two previous El Ninos:

-The last El Nino (relatively short and mild) spanned November and December 1994. Natural gas futures were severally depressed across the board for those two months. In addition, heating oil also experienced price pressure.

-Another mild El Nino occurred from November 1991 to May 1992. Again, natural gas and heating oil experienced weakness. Granted, there were other factors that played into price movement, but given the appearance of El Ninos during these periods, it appears they can have a price-depressing effect.

The market will pay particular attention to U.S. weather, especially in the northeast and midwest for signs of abnormal temperatures due to the impact on natural gas and heating oil consumption. Other areas of concern include the Gulf Coast, Texas and the southwest, whose summer cooling needs could rise on above-normal temperatures generated by the El Nino.

Considering that this year's El Nino started in the spring and seems strong by historical standards, a northward movement of the subtropical jet stream would bring warmer-than-normal temperatures to the lower two-thirds of the United States as long as the episode remains in effect. Such a scenario would buoy the summer and fall natural gas and electricity contracts, but pressure winter natural gas, heating oil and electricity deliveries.

Other effects of an El Nino include below-normal precipitation in the Caribbean and increased westerly winds, both of which work against the formation of tropical storms and hurricanes. A reduced number of hurricanes in the U.S. Gulf region lowers the risk of unplanned natural gas production and refinery curtailments, which removes potentially bullish market considerations.

Although warm weather in key U.S. energy- consuming markets and fewer hurricanes often occur during an El Nino, these factors are not guaranteed. Indeed, El Ninos have been known to produce either blizzard conditions in the northeast or warmer-than-normal winters. The last severe El Nino began in June 1982 and did not end until August 1983. During the winter of 1992/93, a blizzard blanketed the northeast dumping several feet of snow in New York and New England. Early indications are that this year's El Nino has the potential to be equally severe.

July 22, 1997
Prudential Securities, Inc.
One New York Plaza, New York, New York

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