Coming Supply Burden Brings Opportunities in Coffee

By James Cordier and Michael Gross
11 Nov 2006 at 10:59 AM EST

TAMPA, Fla. (ResourceInvestor.com) -- Investors reading an investment article on a stock or commodity typically expect one question to be answered at the end of the piece: Is it going up or is it going down?

Sellers of options, however, learn that the world of the market is not that simple. An outlook such as “I am not sure if it is going up or down in the short term, however, there is a very high probability it will not go to this level” may seem pointless to some investors. But this type of scenario is exactly the kind of opportunity that gets option writers rubbing their hands together. Option sellers don’t care where prices are going. They only care where prices are not going.

This brings us to the coffee market. The NYBOT coffee contract has experienced a healthy price rally over the last 3 weeks. From October 23 through the close on

November 9, coffee prices increased by 18.3 cents per pound (18%) to close over $1.19 per pound. The market rallied primarily on a handful of fundamental issues occurring at the same time:

1.The coffee flowering period took place in Brazil during October and the general consensus is that it did not go as well as expected. The flowering period is a critical time of year for coffee plants. Healthy flowers form on the coffee bush, which then drop off, leaving a red “cherry” that eventually turns into a green coffee bean. The more and healthier the flowers, the higher the quantity and quality of bean the bush will produce the following year. This year’s flowering period saw less than ideal weather conditions, meaning not as many flowers as was generally expected. In combination with an already expected “off” year in coffee production next year, next year’s Brazilian crop could produce 25% less coffee than this year.

More...