Onset of Brazilian Harvest Opens Door for Call Sellers in Coffee
2017/18 Supply Estimates Have Recovered after early Drought Concerns
For option sellers in agricultural markets, harvest time can be the best of times.
As a general rule, harvest time is when a wave of new supply floods the market. Thus, as harvest will be when supply is at its highest, it follows that prices often tend to weaken.
Nowhere is this more true than in the Coffee market, where next month, Brazil will begin to harvest its 2017/18 Coffee bean crop.
Brazil accounts for over 1/3 of the world’s total coffee production and even a larger percentage of the world’s higher quality Arabica production (the primary component of the ICE Coffee futures contract.)
Brazil accounts for over 1/3 of total global coffee production.
Responsible for such a large amount of global supply, developments in the Brazilian crop can have a major impact on price. This is especially true at the ICE whose contract is sensitive to shifts in Arabica supply.
Seasonal Price Tendency Favors Call Sellers
As harvest begins in May, prices have exhibited a seasonal tendency to decline as the new supply begins to flood the market. This tendency is reflected in the seasonal chart below:
Coffee prices have historically tended to weakenas the Brazilian harvest begins in May. Such a pattern this year would favor a call selling approach.
If you have taken the time to learn option selling, you know that this can be a favorable condition for a call seller.
Bearish Fundamentals for Coffee
While Brazil saw a mammoth 54 million bag coffee crop last year, it is a biological function of the coffee tree to have an “on/off” cycle in production – every other year. Thus while 2106/17 was an “on” year, 2017/18 will be an “off” year.
That being said, private estimates have the 2017/18 crop pegged at 49-50 million bags – a sizable and what some would consider a “bumper” crop for an “off” year.
This estimate, should it prove accurate, is even more impressive considering Brazilian drought concerns back in October during flowering season. This resulted in a surge in coffee prices before timely rains arrived in early 2017.
Further impeding the bulls are burdensome warehouse stocks in the US (used to fulfill the ICE Coffee futures contract). Current supplies in New York are at the highest levels since records have been kept – dating back 15 years.
Although prices have adjusted lower off of rising crop estimates over the last month, harvest pressure and an unwinding of trader anxiety over 2017/18 yields should be enough to keep a firm lid on prices in the coming months.
While prices of coffee have declined in the past month, the volatility from last 6 months remains priced in the options. This makes call selling high above the market an attractive play.
We’ll be positioning managed accounts in a series of strikes and strategies in the coming weeks. Do it yourself traders can consider the December Coffee 2.20 calls for premiums of $500-$550.
December 2017 Coffee
Selling the December Coffee 2.20 calls
While fundamentals appear bearish, coffee prices will remain vulnerable to limited technical rallies in the month ahead. We would view any such price strength as opportunities for positioning in either higher strikes or the previously mentioned strike at higher premiums.
Have a great month of premium collection.
For more information on managed option selling accounts with James Cordier and OptionSellers.com, visit www.OptionSellers.com/Discovery for a Free Investor Information Kit. (Recommended initial allocation of US $1 MM )