Softs monitor – April: Prices adrift for lack of fundamental news

by: Frank Rijkers

The speculation roller-coaster roars on…

Softs (cocoa, coffee, sugar) have yet to find a clear price direction in 2016. Fundamental factors such as supply and demand currently only have limited influence. Sentiment among speculators was the principal price driver in the past months. A chronological overview:

January/mid-February
The year started with a sharp price decline. This was prompted by investors exiting the market due to disappointing results in 2015 and the negative sentiment surrounding the unrest on Chinese trade exchanges. “The market” became nervous and speculators scrambled to reduce their long positions in this period, as was mainly visible in sugar.

Mid-February/mid-March
This unrest continued roughly until mid-February, when cocoa, coffee and sugar prices hit lows after falling respectively 7%, 6% and 14%. They then resumed the upward trend. The negative sentiment ebbed away and speculators expanded their long positions again. Bolstered by end-of-month purchases, prices gravitated upwards.

In the course of March the positive sentiment among speculators was fed further by reports about the possible negative impact from poor weather conditions. Cocoa prices rose on the back of speculation and uncertainty from the dry weather in West Africa and resulting quality concerns. The declines of the first weeks of 2016 were thus entirely cancelled out. Similarly, coffee prices hit their highest levels since early October last year due to rumours about drought damaging, notably, Vietnamese beans and short covering. Sugar prices, finally, rose to their highest levels in one and a half year’s time because of the severe production losses resulting from the drought in Asia.

From mid-March
With prices seemingly on an upward trend and the reports of disappointing production levels slowly receding, speculators feel it is time to bail out again. Long positions are being reduced and the price roller-coaster is on a downward trajectory. A cocktail of negative factors such as improved outlook for Vietnam rainfall, volatility in currency markets and political unrest in Brazil have pushed prices back to square one.

 …but we continue to look at the fundamentals for the longer-term direction  

The turbulence among speculators makes it difficult to determine the long-term direction. However, fundamental analysis – based largely on supply and demand – can provide an indication of the future trend.

Production shortfall, but no clear direction for cocoa prices
The most recent data of the ICCO (International Cocoa Organization) on grindings and production show a deficit of 113,000 tonnes for 2015/16, a change from the previously reported shortfall of 85,000 tonnes. This deficit is mainly attributable to this seasons extreme weather, the prolonged Harmattan winds in West Africa and the worldwide El Nino phenomenon. With this, cocoa prices are expected to remain well supported. (The ICCO have published that Global output is anticipated to fall by 1.8% to 4.15 million tonnes with grinding to increase by 1.9% to 4.23 million tonnes.) Grindings for the 1st Quarter of 2016 have however, already come in surprisingly down from forecasted levels, Europe (-0.2%) and the US (-2.2%). At this time of year the market scrutinises the West African mid-crop development, hot dry weather is giving cause for concern on quality, but this is still set to be seen. In this light, we are maintaining our year-end price forecast of 2,750 USD/tonne for the time being.

Lower quality due to drought pushes up coffee bean prices
Coffee bean production around the world is under pressure, while consumption continues to grow steadily (+2.4% y-o-y according to the ICO). The International Coffee Organization (ICO) has published a production outlook of 143.4 million export bags for the 2015/16 season. This is an increase of 1.4% versus last year, but the quality will be lower due to the El Niño-induced drought in, notably, South East Asia. Where the drought will now mainly impact on the quality instead of the quantity, production in the coming autumn may be disappointing due to delayed production losses as a result of drought. At the same time, there is also already some cautious talk about a possible La Niña, which could once again affect production with disappointing weather conditions. For all these reasons, we foresee a slight price increase for coffee, with the Arabica price moving towards USDc/lb 140 in 2016 and the Robusta price ending the year at USD/tonne 1,650.

The gap is growing in the sugar market
As noted earlier, the sugar market is currently in a transition phase. After five years of surpluses, the market is on course for a production shortfall in 2015/16. In the most recent estimates of the International Sugar Organization (ISO), this shortfall have been revised upwards, from 3.5mt to over 5.0mt in the latest update. A shortfall is also forecast for 2016/17. However, the main factor for the price development is Brazilian exports and these appear to be developing in a positive direction.  All in all, our expectation for the coming season is that sugar prices will rise to a level of USDc/lb 15.50 in 2016.

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