Commodities are a fascinating subject area and typically ignored as an investment opportunity for a lot of investors due to their complexity. I certainly ignored investing in commodities for years and wish I had bought some palladium in the 90’s when I saw the opportunity of its use in catalytic converters for car exhaust systems. In December 1992 an investor could have bought an ounce of palladium for $100 USD, whereas now it sells for around $2,400/ ounce. At the time, commodity investing just seemed too hard in which to transact and properly research.
Luckily, nowadays we have computers providing easy access to trade such instruments and to carry out research on such forces that might affect commodity prices. Indeed, everyone should thoroughly do their own research before any investment decision.
In the last couple of years I’ve traded a few commodities and still hold many including coffee. Coffee caught my interest over the last few years largely due to the recent price drop to a 10 year historical low, falling to a mere 89 cents/ pound in May 2019 compared to $3 in May 2011. The price now is around $1.20 and therefore still appears to be close to its recent low.
The Four Potential Tailwinds
Let’s examine four potential tailwinds for coffee. Firstly, the opening up of the economy, with consumers returning to coffee shops. There is going to be nothing more refreshing than for consumers to return to their favourite coffee shops and enjoy a fresh brew. This simple act reflects a sense of return to normality and an associated sigh of relief. In Europe, due to covid, consumers have largely avoided such retail establishments for both leisure and business. Trips to coffee shops for social or business discussions have had a big impact due to governmental restrictions and changes in commuting. I have probably bought a handful of coffees at retail establishments in the whole of last year and am missing the experience of great coffee and socializing but rejoicing at the financial saving.
The second tailwind is a potential crop reduction this year for Brazil that is globally the largest coffee producer of Arabica beans. I cannot surmise if Brazil will indeed see a crop reduction. If the supply does take a hit then the demand logically should drive up the price as seen in previous spikes.
The third tailwind is growth in consumption in places like china, whereby the size of the population and the emerging middle class appears to be enjoying the coffee experience more and more. In Shanghai for example, with the major financial hub and international melting pot, the city has embraced a coffee culture and excellent establishments like OPS Café have emerged in little over three years. The wide choice of different types of coffee with different milk types is providing an ever expanding choice. If those options were not currently enough, the National University of Singapore researchers have even created new probiotic coffee and tea drinks that are packed with gut-friendly live probiotics. Add to this the global population growth, particularly in places such as China and this becomes a key driver.
The fourth and final factor to consider is the foreign currency of Brazil versus the US dollar. When the US $ drops, it takes more dollars to buy coffee and this could translate into the price rising. Current US fiscal policy is to try to stimulate the economy with more Quantitative Easing (QE) as we saw after the global financial crisis. Between 2008 and 2015, the Fed’s balance sheet, its total assets, ballooned from $900 billion to $4.5 trillion. This is nothing, however, compared to the spending in FY 2020 of $6.5 trillion and now discussion of a further $1.9 Trillion at the start of 2021. Whether all this QE will have a tangible effect on its currency remains to be seen.
One thing that I will be doing regarding coffee is to keep my eye on the situation and not take previous trends for granted and I am prepared to hold my positions for a long period of time. Commodities in a way can be viewed very simplistically based upon the principle of supply and demand as mentioned in the case of the catalytic converter, but prices sometimes really can be hard to fathom, unpredictable and highly volatile.