Distant Call Strikes Now Open in Fundamentally Bearish Coffee


Jul

20

2017

Distant Call Strikes Now Open in Fundamentally Bearish Coffee

Click To Read Video Transcript

(Video Transcript)

July 21, 2017 Update James Cordier

Good afternoon. This is James Cordier of OptionSellers.com with a market update for July 21st. For those of our clients in Dubai, Australia, New Zealand, France, and in South America who may not be familiar with the movie Trading Places, I apologize in advance. I’ve seen the movie probably 50 times and it always seems to turn out about the same way at the end. The Duke brothers are trying to corner the orange juice market. Supposedly, they have the crop report in advance and they were hoping for it to show that cold temperatures in Florida reduced the crop, which would then move prices higher.

Similar things happen every July and August. Many investors in the United States and elsewhere bid up the price of coffee with the idea that cold temperatures in Brazil will reduce the crop there, which then, of course, would propel prices higher. Many years ago, over a decade ago, we did have cold temperatures in Southern Brazil that did cut production that year and prices did jump dramatically. As a matter of fact, that volatility is still in coffee options, which we enjoy practically every year.

This year, once again, as we approach the very middle of winter in the southern hemisphere, coffee traders are starting to bid up the price of coffee. It has gone up about $0.20 a pound just recently. Options, some 60%, 70%, and 80% out-of-the-money, are now in play and that is something we’re going to try and take advantage of over the next week or two. The fundamentals in coffee, we feel, are extremely bearish. Supplies of coffee in the United States are at all-time record highs and the country of Brazil is going to be producing 2 record crops in a row. This year will be the off-cycle of crop and next year is the on-cycle crop, expected to surpass over 60 million bags. The second largest producer of Arabica coffee, being Columbia, only produces 10 or 11. This tells you the enormity of the Brazilian crop and will likely be flooding the market later this year and, of course, next year as well.

While cold temperatures do descend on certain levels and areas of Brazil in July and August, we feel that this sets up just a great sale in options going forward. If we do have some cold temperatures, we think the price of coffee will do something similar as the orange juice price did at the end of Trading Places, and we feel quite comfortable about going short some 80% out-of-the-money. Calls 220, 230, 240 a pound, when coffee we expect later this year to be trading around 110-120 per pound, basically one half of the price of the options that we are looking to sell. We think this is going to be an excellent opportunity going forward for this year, as well as next, and we plan on taking good advantage of it.

Anyone wanting more information from OptionSellers.com can visit our website. If you’re not already a client of ours and wish to become one, please feel free to contact Rosemary about doing just that. As always, it’s a pleasure chatting with you and looking forward to doing so again in 2 weeks. Thank you.

  1. Data subscription for ICE futures (which trades KC) is USD 120/month. That seems ridiculous.
    Are there any alternatives?

    • Michael Gross Says:
      July 24, 2017 at 2:58 pm

      Kanishka,

      Live data feeds for futures exchanges cost money. The lesser priced option is to go on a 10 minute delay. If you’re writing long term options and not day trading, this can be sufficient for self directed traders.

      I hope that helps.

      Regards,
      Michael

  2. I love your videos. I wish you offered a smaller account option. I have made some nice dollars following your ideas (especially in -trading places- orange juice last year!)
    I trade in CDs from a London broker or in US ETFs

    Frank

  3. Dmytro Yegorov Says:
    July 21, 2017 at 5:46 am

    Dear James,
    thank you very much for the update on coffee markets.
    A point of concern for me personally is nearly record high short position of managed money (large speculators). This leaves market vulnerable to a price rally should they need to close out their short position, or similar to last year, should market think crop is not enough and rally on emotion. Your view on this would be highly appreciated.
    A second part here could be, would you see a strangle as an appropriate tool for current coffee market. Thank you again!

    • Michael Gross Says:
      July 21, 2017 at 4:51 pm

      Dear Dmytro,

      Short covering rallies in fundamentally led downtrends are common and you have a good point. However, that doesn’t change the fundamentals. Short covering rallies should be expected and viewed as opportunities for selling deeper out of the money calls. This is why we sell options in the first place – they provide the ability to ride out limited moves against one’s fundamentally based position.

      Thanks,
      James

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