Wake Up And Smell The Coffee; Prices Will Remain Stagnated

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Includes: CAFE, JO
by: Alpha World

Summary

Coffee prices slumped sharply in 2015.

Sliding local currencies in Latin America encouraged coffee producers to sell inventories rather than stockpile in an already depressed market.

As a result, Inventories monitored by ICE are at the lowest level since 2012.

However, expect prices to remain stagnated as Brazil prepares for a bumper harvest even as Vietnam sits on massive stockpiles.

Coffee prices have fallen sharply after peaking in 2012. The weather conditions in Latin America during last two years have been relatively drier, which hurt the output. Brazil, the world's top producer of coffee, witnessed smaller-than-expected harvest in last two seasons.

Nevertheless, coffee prices have been under tremendous pressure due to oversupplies. Last year, prices of Arabica beans fell about 24% while those of Robusta beans dropped 17%. The major reason why coffee prices have stagnated in the recent past is that major coffee growing nations in Latin America such as Brazil have been selling a huge stockpile of inventories in international markets, encouraged by a sharp depreciation of their currencies.

Against this backdrop, the iPath Bloomberg Coffee Subindex (NYSEARCA:JO) has slumped about 40% in last one year.

However, high shipments of coffee beans have helped bring down inventory levels. According ICE, global coffee inventory levels are now at lowest levels since 2012. Also the global demand for coffee has been increasing and this year it will reach a record high.

That could tempt commodity investors to take bullish bets on coffee given that supply-demand fundamentals look more favorable now. In fact, some funds, in the recent past, have cut bearish bets on coffee futures.

Also, some surge in prices cannot be completely ruled out especially when production of coffee in some of South American countries like Colombia is expected to fall due to average rainfalls this season.

However, we have to keep in mind that Brazil, the world's biggest coffee producer and exporter, is expected to witness a bumper coffee harvest this season, thanks to plentiful rainfalls. According to Conab, Brazil's crop forecasting agency, the country is set to record a 20% jump in coffee production in 2016. It is expected that producers will produce between 49.1 million to 51.9 million bags this year compared to last season's 43.2 million bags. Each bags consists 60 kilograms of coffee.

And although Brazil's inventories are depleting fast, producers despite low prices, will not find any incentives to restock the harvest given that real is so weak currently. So I expect global coffee supplies to remain abundant, which should keep a lid on prices.

Another factor which should keep coffee prices, especially Robusta beans, under pressure is that Vietnam until late last year had massive stockpiles of coffee beans. According to varied estimates, Vietnam one of the world's biggest Robusta bean producers, had stockpiled anything between 150,000 tons and 500,000 tons. Inventory levels have jumped as farmers in Vietnam preferred hoarding their produce rather than selling in international markets due to low prices. In this context, any possible rise in coffee prices will be short-lived as Vietnam coffee producers will try to bring down their inventory levels, in case they fetch better prices in international markets.

That said, Vietnam along with several other coffee growing nations have been experiencing dry conditions due to El Nino weather patterns. So the harvest could fall significantly this year, which in turn could squeeze supplies, in the long term.

However, in the short-to medium-term, I don't expect coffee prices to move up significantly.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.