The recent activity in the cocoa market can be best described as counterintuitive. The market has rallied sharply for no apparent reason. Even the typical peripheral reasons often cited, such as a weak U.S. dollar or broad commodity strength would not have applied. The dollar has been directionless, and commodities, if anything, have been getting clobbered.
Short-covering by funds can hardly be blamed either. The most recent Commitment of Trader data show that speculators increased their net-long position by more than 9,000 contracts from the previous week, to hold their largest long position since January.
Ivorian output is the single most important factor that determines cocoa prices. Despite bumps and grinds in weather conditions along the way, the 2012-13 crop has fared well. Port arrivals stand at 1.064 million tonnes, down about 1% from last year at thistime.The main crop is just wrapping up, and farmers are beginning to ship early mid-crop beans. The consensus of analysts is that the mid crop should do well, with a median estimate of 400,000 tonnes, higher than the previous 5-year average.
January and February were dry, delaying the onset of the mid-crop, but then the rains picked up. Total 2012-13 production should meet last year’s 4.1-million tonne output level.
Butter prices have maintained their recent strength in both Asia and Europe, at about 1.75 and 1.95 times the London spot price, respectively. Powder prices continue to weaken, however, and have fallen to below $2,500 per tonne, down from $5,000 per tonne one year ago. Weak powder prices have dragged down the combined ratio to its lowest level in many years.
A degree of tightness seems to have developed in the butter market, because the two main products are sold as a package, and processors are reluctant to sell when the combined price is so low. Still, this does not explain strong beanprices.
Amid the anecdotal evidence of product hoarding and the resulting buildup of butter and powder inventories, there was a glimmer of hope on the demand side. Fourth quarter grind figures for North America showed surprisingly strong activity, perhaps in anticipation of stronger consumption trends. Analysts were expecting the grind to come in between -1% and +1%, but the actual number was +6%, the biggest jump in two years. The headlines took note of the news, but the market has not advanced in earnest since the data were released on April18.
Attaching too much significance to the North American grind, however, is premature, because the other key grinding regions continue to see flat to negative growth. Europe grinds roughly three times as much as North America, and its fourth quarter grind was down 4%, in line with expectations. In Malaysia, Asia’s largest processor, the grind fell by 3.2%.
The supply/demand fundamentals seem to warrant a short-sale recommendation. Indeed, for short-term traders, it would seem to be a reasonably decent bet. We are reluctant, however, to be short this market.World supplies have kept pace withdemand, but only because demand growth has been anemic. The handful of producing countries that grow 75% of the world’s beans have not been successful in advancing output growth, try as they might. We constantly hear about reforms in the Ivory Coast that are designed to put more money into the hands of farmers in an effort to stimulate more spending on fertilizer and other crop-enhancements. But it has not happened. We anticipate a range-bound market for now.