The Market Corner: the month in review
Written by Filippo Lecchini, Vice President at Phillip Capital
Coffee with Sugar
Friday August 17th marks a dubious milestone for two of the commodities that many are most familiar with. Sugar and Coffee hit their lowest close since 2008 and 2006, respectively.
Not uncommonly there are different factors contributing, some have to do with the long-term fundamentals but also the shorter- term market dynamics plays a role. The mini emerging markets crisis, ignited by the dramatic fall of the Turkish Lira, has led to a wide selloff that hardly spared any commodities. The markets saw declines across the board hitting metals as well as softs and energy. In a world where impulse policy decisions as well as their sharp reversals are becoming increasingly common situations like these only bear a relative weight. They translate into short-term volatility which traders love, hedgers and producers not as much but at the end of the day is all perceived as regular course of business.
Then there are demand and supply considerations. 2018 and 2019 are forecasted to see plentiful supply in several countries. That is often the result of Governments’ actions and incentives and poses some relevant questions of viability. The simple idea is that demand increases when prices go down, but not every good is the same. For the consumer the decision of adding an extra spoon to one’s beverage of choice is hardly ever related to the price of sugar and not just because there is no direct charge for sugar consumed outside the house. Coffee is a different case, where the price per cup does influence demand. Consumers in front of price movements tend to substitute as much as they can rather than changing their habits; they will opt for lower quality in the case of a hike, but they will not necessarily drink more when the price goes down. The question is whether increasing production is a worthwhile decision from a business standpoint, and that leads to fundamentals.
The long-term outlook for sugar prices doesn’t appear to be particularly encouraging. Plenty of recent scientific research has analyzed the effects of a sugar intensive diet and unveiled the risks and consequences of sugar consumption. Along with other stress factors, sugar has been connected to heart disease, diabetes and obesity. These not only affect individuals but have also contributed to drive up healthcare costs in developed countries. In recent years government campaigns as well as information being more readily available have started to change consumers’ behavior. Regardless of health concerns, habits and tastes evolve over time. Soda, for example, no longer appears to be as popular as it used to. Changes can also happen on the production side where cheaper sweeteners might become available at a lower cost without altering flavor.
The case of coffee is a little different. There are no widespread health concerns associated with coffee consumption. In fact there is research supporting the idea of long term benefits, but many of the same considerations apply. Coffee got caught in the commodities selloff, there could be an effect on demand based on changing consumer preferences, but the bigger factor seems to be oversupply. The long term outlook for coffee however could be bullish: as the market works through inventories and stabilizes any supply shock could ignite a reversal. Change toward a dryer weather in some of the producing countries, noticeably Brazil, could also negatively affect the crops for the long haul supporting higher prices.
With Labor Day in sight in the US, the summer break is coming to an end. A new budget for the upcoming fiscal year starting on October 1st is due in September and, to complicate things further, the midterm elections are already looming large on the end of the summer. September is also when the FED is supposed to raise rates for the third time in 2018. At the time of this writing, the September hike appears to be like a done-deal according with the FED Funds Futures. Uncertainty however persists around whether there will be three or four increases for the year. Since the GDP numbers have recently shown an accelerating economy, our guess would be more tightening to come in December but what happens after the September 25-26 meeting remains to be seen.
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