Hot coffee, part 2
In February of 2013, I had dedicated an article to coffee, Hot Coffee. In it I discussed its price, production and possible future development. Back then I wrote :
“…a pound of coffee cost 50 cents in the 1970s’ and currently goes for 141 cents. If you can find one staple commodity that costs less than triple the price from 40 years ago, please email me and let me know.Let’s take the analysis a step further. In commodities, high prices are the cure for high prices and vice versa, low prices the cure for low prices. Why? Quite simply, as a commodity becomes pricey, it is more profitable to grow/mine the commodity and thus, supply expands as demand drops. In the case of low prices, the opposite happens. When a commodity nears the price of production, supply falls off sharply as the production of the commodity yields little to nothing. That supply shock plus higher demand at lower prices lead to a general reversal in price… Therefore, as long as a commodity does not disappear altogether, the bottom price is naturally around the cost of production. Coffee costs about $1 to $1.2 per pound to produce at the moment depending on coffee bean and Location……. Evidently, coffee grows around the equator and as such, you need to add approximately 10 cents a pound in transportation cost to the colder climates north. Given total cost of $1.1-$1.3 per pound of coffee and a current price of $1.41, this may be a perfect time to buy coffee. This does not mean that coffee cannot fall to the cost of production but your down side is probably limited to 10-15% while the upside is a multiple of that. Besides, if your purchase of coffee turns out a loser your Sunday morning cup of coffee should be that much cheaper as well. Another way to look at this would be to say you can buy your coffee consumption for the next 1,5,10,20 years today at close to 2013 production cost. Makes sense to me…”
Now, what has happened to the price of coffee since I wrote that article 18 months ago? As so often, the down trend to below production cost continued as speculative and leveraged positions were forced to liquidate. However, once the “hot money” was out of the market, the Price of coffee had nowhere to go but up as coffee producers would not be able to grow at Prices below production.
So far this year, coffee is the only commodity breaking out on the upside despite subdued inflationary pressures in the global economy. For all the short-term reasons, please read the following Reuters article “Why Coffee Prices are piping hot“.
Fundamentally, it is back to basics, supply and demand. As demand for coffee is constant and growing, the price for coffee is largely determined by supply which in turn is price sensitive. If you choose to get involved in the commodities markets, use common sense and avoid leverage. And as always, caveat emptor!