From the November 01, 2011 issue of Futures Magazine • Subscribe!

Weather affects premium more than price

Market Strategy

It was only this spring that coffee prices touched a 14-year high from a combination of lower supplies and an optimistic economic outlook. These prices were responding to a marked shortage of high quality, washed arabica beans. These are the beans primarily used in higher-end, gourmet coffees such as Starbucks. The beans often command a premium in the market and generally are produced by smaller "boutique" growing nations, such as Colombia, Peru and Central American producers.

While Brazilian farmers may object to the oversimplification, think of Brazil as Folgers — coffee for the masses — and Colombia as Starbucks — gourmet specialty for the few.

Weather problems in 2010 for several of these smaller producers brought about smaller crops, which meant lower supplies. Economics 101 dictates lower supply means higher prices. Yet as the 2011 summer approached, most Central American producers were in recovery mode. Total production from these key regions is expected to be up by 2% in 2011. In addition, Brazil, the world’s largest producer and exporter, began harvesting its 45-million-bag crop in June. The influx of supply brought harvest pressure to coffee prices through much of the North American summer.

We had expected coffee prices to continue a slow consolidation into the fourth quarter, when the market likely would turn its focus to the 2011-2012 crop. Brazil, the world’s largest producer of coffee beans, is expected to yield a record crop of more than 55 million bags in 2012.

However, there was a wrinkle. In early August, a frost occurred in Brazil’s southeastern coffee growing belt. While frost will have little effect on this year’s harvest, traders worried that next year’s yields could be hurt. At the same time, heavy rains during harvest forced Colombia to reduce its crop estimate for 2011. Coffee prices spent the remainder of August rallying by more than 25%.

The Brazilian frost will have no impact on this year’s harvest and, by most accounts, will not affect 2012 either (see "Future looks bright").

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