Corn supplies in the U.S., the world’s biggest exporter, are declining at the fastest pace since 1996 just as a Midwest heat wave damages the world’s largest harvest for a third consecutive year.

Stockpiles were probably 3.168 billion bushels (80.47 million metric tons) on June 1, 47 percent less than on March 1, the average of 22 analyst estimates compiled by Bloomberg shows. The worst Midwest drought in more than a decade is wilting a harvest that the U.S. Department of Agriculture says will be the biggest ever. The agency updates its inventory estimate June 29 and its production forecast two weeks later.

Futures surged 25 percent since reaching a 20-month low June 15, and Morgan Stanley expects prices to advance an additional 11 percent to $7 a bushel in two months if the drought persists. The rally is boosting global food costs that the United Nations estimates dropped 14 percent from a record in February 2011 and widening losses for ethanol producers including Decatur, Illinois-based Archer Daniels Midland Co.

“We have a potential disaster developing for the U.S. corn supply,” said Peter Meyer, the senior director for agricultural commodities at PIRA Energy Group in New York who cut his corn- crop forecast after surveying fields in Illinois, Indiana and Ohio last week. “This year may be the worst yet.”

Top Commodities

Corn rallied 14 percent this month to $6.33 a bushel today on the Chicago Board of Trade, trailing only wheat and natural gas among 24 commodities in the Standard & Poor’s GSCI Spot Index, which fell 3.2 percent. The MSCI All-Country World Index of equities rose 1.9 percent, and the dollar fell 0.6 percent against a basket of six currencies. Treasuries lost 0.2 percent, a Bank of America Corp. index shows.

The USDA forecast June 12 that pre-harvest stockpiles at the end of August would plunge to a 16-year low of 21.62 million tons. That’s a 50 percent decline in two years, the most since 1990. Standard Chartered Plc forecast yesterday a third-quarter average of $7 a bushel, a record for the period. The cost of an option conferring the right to buy at $7 by the end of November rose fourfold since mid-June, CBOT data show.

While the USDA’s prediction on June 12 was for a 20 percent jump in U.S. output this year to a record 14.79 billion bushels, the harvest is about two months away and dry weather across the main growing region comes as plants begin to pollinate. That’s the most vulnerable period in the growing cycle, so the next two weeks are crucial, Dennis Gartman, the author of the Suffolk, Virginia-based Gartman Letter, wrote yesterday. Meyer expects the crop to total 13.5 billion bushels.

Third Quarter

About 71 percent of the Midwest had abnormally dry soil to extreme drought on June 19, the worst in more than a decade and up from 1 percent a year earlier, according to the University of Nebraska at Lincoln. Crop conditions on June 24 were the worst for that time of year since 1988, with 56 percent rated good or excellent, down from 77 percent on May 18, USDA data show. The National Weather Service said June 21 that unusually warm, dry conditions would probably continue into next month.

Slower growth and rising Brazilian supply may contain the rally, Rabobank International analysts led by Sydney-based Luke Chandler said in a June 21 report. The bank cut its third- quarter forecast to $6.10, from $6.20 a month earlier. Corn demand rose 1.3 percent in 2009 as economies contended with recession, from a 6.6 percent expansion in 2008, USDA data show.

A 21 percent jump in Brazilian production will reduce demand for higher-priced U.S. supplies, Rabobank said. Purchases by U.S. ethanol refiners may also weaken after retail gasoline prices tumbled 14 percent to $3.397 a gallon from a 10-month high on April 4, the analysts said.

Hedge Funds

Losses from ethanol refining increased from about 13 cents to 15 cents a gallon at the start of May to the “high 20s,” Patricia Woertz, ADM’s chief executive officer, told investors at a Deutsche Bank AG conference in Paris on June 19. The company shut a plant because of poor returns, she said.

Hedge funds and other large speculators are still less bullish than over most of the past two years, holding a combined net-long position of 70,715 futures and options in the week ended June 19, U.S. Commodity Futures Trading Commission data show. That compares with a two-year average of 257,000 contracts.

“The number of bushels being subtracted daily from the U.S. crop is running over any worries about a decline in demand,” said Marty Foreman, an economist at Doane Agricultural Services Co., a farm and food-company researcher based in St. Louis. “Until we see significant and widespread rain in the Midwest, no one knows how far yields can fall this year.”

Commodity Research

Global demand for corn has expanded for 16 straight years and will reach a record 865.5 million tons in the 12 months ending Oct. 1, 2012, USDA data show. World inventories on Oct. 1, 2011, were equal to about 15 percent of consumption, the lowest ratio since 1974. U.S. yields failed to keep up, slowing to annual gains of 1.8 percent since 1996, from 4.3 percent in the four decades to 1970, according to government data.

The Midwest drought probably will spur the USDA to cut its estimate for 2012 corn yields next month, Hussein Allidina, the New York-based head of commodity research at Morgan Stanley, wrote in a June 19 report.

Lower yields will boost demand for fertilizers, and investors should buy Potash (POT) Corp. of Saskatchewan and CF Industries (CF) (CF) Holdings Inc., Charles Neivert, a managing director at Dahlman Rose & Co. LLC in New York, wrote in a report June 25. Saskatoon, Saskatchewan-based Potash is the world’s biggest fertilizer producer. Deerfield, Illinois-based CF Industries is the top maker of nitrogen fertilizer in North America.

Smithfield Foods Inc. (SFD) (SFD), the largest U.S. hog producer, said costs to raise an animal rose $10 to $64 per 100 pounds of pork in the year ended April 29, Chief Financial Officer Robert W. Manly told analysts on a conference call June 14.

Chicago Board

Stockpile forecasts by analysts and traders missed the USDA’s figures by 215 million bushels on average in the past two years, twice as much as in the previous five years, according to data compiled by Bloomberg. Futures moved by the maximum allowed on the CBOT after seven of the past eight reports, with an average swing of 5.9 percent. Inventories are getting harder to predict as growers build more silos on their land rather than using commercial grain elevators.

Cash prices for corn in central Illinois, the second- biggest producing state after Iowa, rose or fell an average of 6.6 percent the day of the past five quarterly reports, government data show. That compares with an average of 2.7 percent in the previous 17 years.

“Yield growth has slowed at a time when global demand is exploding,” said Steve Nicholson, the chief economist for International Food Products Corp., a distributor and adviser on food ingredients in Fenton, Missouri. “A third year of U.S. crop problems is something the world cannot stand this year.”

To contact the reporter on this story: Jeff Wilson in Chicago at jwilson29@bloomberg.net

To contact the editor responsible for this story: Steve Stroth at sstroth@bloomberg.net