In Box

The Poppy Trade

Soaring food prices have led to violent riots and swift setbacks in the global fight against poverty this year. But in Afghanistan, which has been hit particularly hard by the spike in wheat prices, a silver lining to the food crisis is emerging. The high price of wheat might be accomplishing something the international drug war never could: convincing Afghan farmers, who supply 90 percent of the world's opium, to abandon poppies for growing food.

Because wheat prices have nearly tripled in the past year, the price of bread for Afghans has risen dramatically. David Mansfield, an independent researcher who has studied Afghanistan's opium market for nearly two decades, thinks that the price increase has made wheat a far more attractive crop to many poppy farmers. In 2007, a farmer could expect returns of about $320 per acre of wheat and $640 for an acre of poppy. But by this spring, the return on an acre of wheat had risen to $840 per acre, while poppy had fallen to $400 an acre.*

According to nearly 500 interviews Mansfield recently conducted with Afghan farmers, poppy yields this year have been much lower than expected, which suggests that farmers are planting more wheat in response to market pressures. "[P]eople said they were going to grow more poppy than they subsequently did," Mansfield explains. He says that even farmers in the poppy capital of Helmand province may have torn up and replanted their fields with wheat as the price began to jump. According to Afghanistan's Ministry of Counter Narcotics, 20 provinces are poppy free this year, seven more than in 2007, largely because farmers were switching to legal crops.

Still, the likelihood that Afghan farmers will stop growing poppies is remote. Bad roads, checkpoints, and corrupt intermediaries make it hard for many farmers to transport their wheat surpluses to market. For now, most farmers are finding that extra wheat makes it easier to feed their families or sell locally. But, interestingly, it was supply and demand -- not aggressive antidrug efforts -- that made the progress possible.

* Due to an editing error, an earlier version of this sentence incorrectly stated the change in price for wheat and poppy in Afghanistan. FP regrets the error.

In Box

Shelter from the Storm

Your retirement savings may soon rest on a bet against Mother Nature. The reason? The rise of cat bonds. Short for "catastrophe bonds," cat bonds transfer the financial risks that come with disasters such as hurricanes and earthquakes from insurance companies to the broader capital markets. Bruised by the stormy global economy, investment managers are flocking to these bonds in a bid to diversify away from assets linked too closely with suffering market trends, such as mortgage-backed securities. Even with climate scientists predicting more severe storms on the way, cat bonds are proving to be a gamble with plenty of willing takers.

How does a basic cat bond work? An insurance company sells a bond to investors who bet that, say, a hurricane won't hit Miami and cause $1 billion in damages in the next year. If there is no hurricane, the investors get impressive payouts. But if the hurricane hits and the losses exceed $1 billion, the insurance company is off the hook and the investors are wiped out.

Growth in the cat-bond market has been swift. In the two years after Hurricane Katrina devastated New Orleans, the market for cat bonds roughly tripled to more than $13 billion. Goldman Sachs estimates the market will exceed $23 billion by the end of the year, and John Seo, a hedge fund manager at Fermat Capital Management, expects it to grow to at least $150 billion in the next 10 to 15 years.

So far, insurance companies and investors consider cat bonds win-win. After Katrina, insurance companies realized their pockets weren't deep enough to cover another major catastrophe. With cat bonds, they are increasingly able to offload some of their risk, especially along vulnerable coastlines. "We have twice as much property value placed in every square mile along [U.S.] coastlines every 10 years," Seo explains. "Our catastrophe losses are going to double every 10 years." And the bonds have been a sound deal for investors, returning an average of 11 percent per year since 2005. But given that investors are now betting billions against the weather, their returns can only be as good as Mother Nature allows.