For coffee traders, this year has been a tale of two beans. Since the start of the year, prices for arabica, the high-quality bean beloved of the espresso cognoscenti, have plummeted more than 20 per cent, while robusta, used mainly for instant coffee, has risen nearly 10 per cent.
Both markets weakened at the end of last year on expectations of good harvests: in Brazil for arabica, and in Vietnam for robusta. But this year Vietnamese farmers have held back their crop, refusing to sell. Added to that, strong demand for lower-quality beans has pushed up robusta prices, opening a price gap between the two beans that has attracted hot money. For financial commodities traders, placing a bearish bet on arabica and a bullish bet on robusta has been the trade of the year. “That’s absolutely where the money has been made,” says one leading European coffee trader.
For years the two coffee markets – arabica is traded on ICE in New York, and robusta on Liffe in London – had traditionally been dominated by specialist roasters such as Nestlé and trading houses including Louis Dreyfus Commodities. But hedge funds and computer-driven funds are now dipping in and out of the market, which some blame for higher volatility.
The slump in arabica is a far cry from last year, when prices hit a 34-year high in March amid a shortage caused by bad weather in Colombia, one of the leading producers of high-quality beans. Having hit $3.089 per pound over a year ago, prices are down more than 40 per cent to $1.82 per pound.
Brazil is the world’s largest coffee producer and the outlook for a large crop has prompted hedge funds and other speculators to bet on lower prices – or short positions. Hedge funds replaced their bullish bets, or long positions, on arabica for bearish bets after mid-January, when Brazilian producers started to forward sell their crop to lock in prices. Small production increases in minor arabica producers, including Honduras and Ethiopia, added to the supply worries, pushing the market into a technical spiral downwards.
“The sizeable long became a sizeable short,” says James Hearn, co-head of agricultural commodities at commodities brokers Marex Spectron. The robusta market in London, on the other hand, has been supported by rising demand in developing countries – particularly in robusta producers such as Mexico, where they now drink a large share of their harvest. Indonesians, in particular, have been big importers of Vietnamese coffee after domestic production fell by a third in 2011. In Europe, traders and analysts have noted the rise in robusta in coffee blends offered by coffee makers as the economic slump has depressed the value of ordinary consumers’ shopping baskets.
Robusta prices have been supported by Vietnamese farmers holding back on their record harvest and only selling when prices were above about 40,000 dong ($1.90) a pound. High inflation in Vietnam has meant that farmers would rather hold on to their beans than hold cash. “The Vietnamese farmers have been very disciplined sellers,” says Markus Brüschweiler, group buying director of United Coffee, the coffee trader and roaster, which supplies UK supermarkets including Tesco, as well as McDonald’s in various European countries.
Coffee traders add that a major trading house is holding a larger than usual position in the London market, controlling about 70 per cent of all stocks, further tightening the market for the lower-quality bean.
After hefty profits in the first quarter placing simultaneously bullish bets for robusta coffee and bearish bets for arabica beans, hedge funds are now a little more hesitant as the outlook for the two coffee markets starts to change.
The key is whether robusta prices will fall back, tracking the downward trend of the arabica bean. Keith Flury, analyst at Rabobank, one of the leading lenders to the agribusiness, believes that will be the case: “The harvest pressure will probably promote Vietnamese selling.”
But others see the low robusta stock levels as supportive. “The pipeline in Indonesia is completely bare and the local roasting industry will need to take their first harvests for themselves,” says one coffee trader.
In any case, the period of easy profits seems over. Hedge fund managers are likely to take a step back and just enjoy their espressos.