Coffee economics

Keeping an eye on world coffee stocks

When it comes to the global coffee market, it’s really all about Brazil. Even as the world of coffee has seen prices influenced by anything from oil prices to the economic growth in China, in the end it all boils down to the output of the world’s largest coffee producer. If Brazil has coffee, the world of coffee is safe, and it doesn’t even matter whether that coffee is from new production or existing supply. But as 2015 gets underway, it’s becoming increasingly obvious that dwindling Brazil stocks could become a major issue for the industry. Adding to the woes of the market, Brazil’s 2015-16 crop does not look good. Even if projections for the 2015-16 harvest turn out to be a tad better than the most pessimistic projections – and the market won’t know for sure until mid-May when the first lots of the crop in Brazil start reaching mills for processing – at the most optimistic count Brazil is going to run short of at least 4 or 5 million 60-kilogram bags. “The market is not bullish enough because Brazil has zero stocks left. People tend to forget that Brazil must have working stocks and they are in deficit when stocks go below 8.4 million bags, and in previous years when stocks went below 8.4 million bags this has put the market at US$3.09 per pound,” says veteran Commodity Analyst Judith Ganes-Chase, who runs J. Ganes Consulting in the United States. This scenario could occur as early as the end of March, when Brazil’s government officially closes the coffee harvest year. The stock end-balance is based on what is left in inventories from the last 2014-15 harvest, calculated against the demand of the local market until the new crop starts to arrive by the end of June. Ganes-Chase is not the only analyst who has started to raise the alarm. From London to Singapore, traders and roasters are increasingly concerned about what the actual impact on the market and prices will be once the reality of what might be the lowest stocks in history starts to sink in. “When I go over my calculations, the bottom line is that Brazil has a deficit and the only question is how big it’s going to be,” says Pedro Echavarria, an Independent Analyst in Colombia. “Brazil needs at a very minimum 12.5 million bags in working stocks for each quarter in order to sustain the balance in its domestic market plus exports. Unless there is a major surprise and some unreported inventories appear – which I consider highly unlikely – by 31 March the balance in Brazil will be at a little over 8 million bags at the most,” Echavarria tells GCR Magazine. The market, however, has yet to react to  the low stock levels. Prices have stayed in the lower range of US$1.60 – $1.80 per pound since early January 2015. Bears in the market argue that prices are low because Brazil had back-to-back bumper crops in both the 2011-12 and 2012-13 crop cycles, producing crops of between 56 and 58 million bags in each cycle. “The previous years permitted the build-up of a sufficiently large cushion of coffee stocks that should prevent a genuine shortage of supply on the coffee market,” said Commerzbank, Germany’s second largest bank and financial services provider, in a report released last December. So where has all this coffee gone and why is it not showing in overall stock figures? The simple answer is that it’s difficult to say exactly how much volume was actually ever produced in Brazil. At the root of what makes any debate or real analysis about stocks so complicated is that limited reliable data exists. Figures for stocks in producing countries have always been subject to manipulation by market players across the industry, from trade in origin to trade in  importing nations. “The current supply/demand balance is rather tight,” said the European Coffee Federation in a 2014 market report, adding that available stocks in origin are “being particularly difficult to estimate.” Some stocks at any given time can be found where coffee is produced, but it’s near impossible to know with any certainty which of the coffee actually held in warehouses has already been sold and is merely awaiting shipment. Coffee held in warehouses in importing countries has for the most part already been purchased, and is on its way to the buyer’s final destination. Naturally, this coffee does not constitute stocks. The only statistically-proven data available are stocks in the two key importing markets of the European Union and the US. In these markets, stocks are actually flat or lower today than was the case five years ago. Certified stocks at the ICE futures exchange in New York have actually gradually increased over the past two years – a fact attributed to the two big crops in Brazil that led to an increase in coffee shipments – but overall green coffee stocks in the US, however, stood at just over 5.52 million bags as of 31 December 2014, according to the US Green Coffee Association. This compares to 4.6 million bags at the end of 2009, but is flat on stocks of 5.49 million bags by the end of 2003. The same goes for European stocks. Even though they increased to 11.49 million bags by the end of 2014, stocks are actually 15 per cent lower than they were five years ago, when total European stocks stood at 13.52 million bags, according to data from the European Coffee Federation. Total stocks according to proven warehouse records in Europe and the US at the end of 2014 were at 17 million bags, a drop of 5.9 per cent from stocks of 18.1 million bags registered by the end of 2009. With overall stocks trickling down, global consumption has actually expanded by almost 20 million bags since 2009. Based on recent years’ annual growth rate of 2.1 per cent, world consumption is set to approach 152 million bags by the end of the 2015 calendar year, up a stunning 19.5 million bags since 132.3 million bags in 2009, according to the International Coffee Organization (ICO). “A year ago Brazil had, at the most optimistic calculations, surplus stocks of between 6 and 8 million bags of coffee, but Brazil has exported that same surplus during the 2014-15 crop cycle to make up for the lower production and keep its share in the export market,” says Echavarria, who has five decades worth of detailed records of world production and stock data. “By 31 March, when Brazilian authorities evaluate the end-of-harvest balance, they will reveal a major deficit. Add to that the effect of the drought on the new harvest and the balance ahead will put the market in an even more vulnerable position,” he says. This drop in stocks has come as a surprise to many in the market. “There has for years been an incredibly aggressive campaign of speculation by the bear camp in the market, which held record short positions up until February 2014, and therefore were desperate to cover their positions at the lowest possible price,” one trader with a major multinational exporter, who asked not to be named, tells GCR Magazine. “So even when all the crop damage was well known not just in Brazil, but also among producers like Vietnam, India, Indonesia and in Central America, they did everything to talk the market down.” Analysts like Echavarria say the “cover-up” by the fund-controlled market participants started as early as February 2013, when the market still stayed faithful to all those reports predicting a massive and even potential record crop in Brazil in the 2013-14 harvest. But local sources and exporters in Brazil say it was well known that a severe drought during the first quarter of 2013 cut the Brazilian Robusta harvest short by at least 30 per cent, resulting in a much lower crop. Flowering in Vietnam, similarly, suffered severe challenges during February 2013, as the key producing areas across central Vietnam remained dry for up to six weeks just after the onset of the initial flowering. “A lot of traders continued to play down the severe dryness in Vietnam at the time, saying this was all normal as it occurred during the dry season,” says local exporter Hung Nguyen in Vietnam’s largest coffee province of Dak Lak in the Central Highlands. “But anyone working with coffee knows that even though it’s the dry season, once the trees have flowered, at some point up to three or four weeks later you have to have rain in order for the flower to develop into cherries, and that just didn’t happen.” In Brazil the situation continues to get worse as the severity of the drought continues to negatively impact the new harvest. If the most optimistic projections hold, Brazil may still produce a 2014-15 crop of between 45 – 47 million bags. But this would fall below the market demand for Brazil to produce at least 50 – 52 million bags in order to sustain world exports of at least 32 million bags and domestic demand of some 21 million bags. “Several recent reports have forecast an increase in production in the next year, with sufficient stocks available to cover the shortfall in 2014-15,” the International Coffee Organization said in its latest market report, but added that the new harvests in both Brazil and Central America continue to be exposed to negative weather effects. “Exports from Central America are mostly recorded lower in 2014 as the coffee leaf rust outbreak continues to affect production, which is also the case in Mexico and Peru. Overall rainfall levels in Brazil remain below average, with the development of the 2015-16 crop now at a crucial stage,” says the ICO. Roasters would be wise to start buying coffee to ensure they have their books covered before the official stock balance report from Brazil is released after 31 March. “We only need to have a small problem with the forecasts for one of these regions, be it Brazil, Central America or even Colombia not producing as much as many are hoping for, and then the market will be in a position where it lives from one crop to the next,” Echavarria says. “This is not a healthy situation.” GCR

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