There has been no shortage of handwringing this week amongst mainstream investors worried about the potential pitfalls that could be waiting to torpedo their equities portfolios.This week’s headlines have read like a Petri dish of possible bull killers. Pick your poison: the SEC’s investigation and Congress’s (nationally televised) hearings into Goldman Sachs, the Greek credit crisis building to crescendo, Spain’s downgraded credit rating or, simply the time of year. The old S&P trading axiom of “Sell in May and go away” could be enough to convince some investors to do just that.
Stocks may or may not be greatly affected by any of these issues. However, wouldn’t it be nice to be in an investment where these headline issues were not a major factor? -Where basic supply and demand were the main determinates in longer term price direction?
Coffee 2010
Welcome to the 2010 Coffee market. Sure, coffee trades on an open exchange, just like stocks, with investors bidding prices up or down. However, these prices are based on what coffee roasters are willing to pay coffee farmers for their product. There are no P/E ratios, no earnings, and no Greece.
As we have noted on occasion throughout the past few months, May is the time of year in the coffee market when all eyes turn to Brazil as the 2010 coffee bean harvest gets underway. As the world’s largest producer and exporter of coffee beans, the size of the Brazilian harvest can have a major impact on price.
It is interesting to note that coffee is one of the few crops where the actual amount of product harvested is subject to who is doing the counting: The Brazilian government, the USDA or private forecasters. Brazil is infamous for understating the size of its crop (the smaller the crop, the higher the price). The country states that this year’s crop will reap between 45.9 and 48.7 60kg bags of coffee beans. Yet many private forecasts (including Liberty Trading’s) have the crop pegged at 51-55 million bags – potentially an all time record. This would be a substantial increase over last year’s 43 million bag harvest.
Brazil has already begun harvesting what could be an all time record coffee crop – as much as 55 million bags
Whichever estimate you use, Brazil is going to produce a lot more coffee this year than last. Adding to the supply surge, Columbia, Costa Rica and other Central American producers are also seeing production recover this year after last year’s shortfalls.
As the new crop begins to come out of the fields and flow onto the global market, prices often begin to reflect this new supply influx. This is known as “harvest pressure” and can apply to many agricultural commodities. (past performance not indicative of future results)
In past years, it has not been uncommon to see coffee prices rally in the weeks or months leading up to the Brazilian harvest. This is typically the time of year when supplies are tightest and the world relies on Vietnam to fill most of it’s coffee supply needs. While there were no crop problems in Vietnam this year, farmers will often hold out for higher prices in the Spring, knowing they are the “only game in town” until Brazilian beans begin to show up.
That didn’t happen this year. Instead, Brazil and Columbia began harvesting beans in early April as ample rains and hot weather allowed many coffee beans to ripen early. Coffee prices have been falling ever since.
While Vietnamese farmers are now attempting to hold product off the market as a result of the lower price, they are fighting an uphill battle. The bulk of the Brazilian harvest will be flowing onto world markets over the next 30-90 days.
Technically oversold, coffee prices could use the Vietnamese issue as a reason to rally in the coming days and/or weeks. However, the timing and sheer size of the Brazilian crop should keep any price rallies from running too far.
We would see any and all price rallies in coffee over the next 30 days as opportunities for selling deep out of the money call premium in Coffee. September options are already showing substantial decay and thus we would look to the December options as most viable with an objective of taking profits in 60-90 days.
Remember that in selling calls, you do not necessarily need prices to move lower to benefit. You only need prices to avoid a sharp rally. With a potentially record crop now emerging out of South American coffee fields, that scenario appears unlikely to us.
By: James Cordier, Michael Gross, OptionSellers.com
April 29, 2010
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