El Nino Will Continue To Send Coffee Percolating Up

Like most commodities, coffee’s worst enemy is the weather. Many coffee producers are going to struggle through the rest of this year and much of 2015 under the combined impact of a strong El Niño and “la roya.” But a bad year for coffee could be a good year for investors.

The quality and quantity of the coffee harvest closely tracks the cycle of El Niño and La Niña weather patterns. La Niña years, and for a period of time after, mark a time of abundance and lower prices. During El Niño years, and for a short period of time after, the crop is poor and prices jump.

Tropical weather patterns began to shift late last year ahead of El Niño. Four of the top five coffee producing nations are in a drought and the fifth will face it late this summer. In fact, coffee prices have climbed sharply since early January as it became clear that drought had ravaged Brazilian coffee. The coffee crop from Brazil is expected to fall 20%. The situation doesn’t look much better for the other major coffee-growing countries. Indonesia has been suffering through a drought, while drought conditions have just started to settle in for Colombia and Vietnam.

Ethiopia, the world’s fifth largest grower, has been profiting from Brazil’s woes because their weather has been great for growing coffee. But their fortune will change in August, as El Niño reduces their rainfall to about half of normal.

And then there’s “la roya.”

Central America accounts for about 9% of the world’s supply of coffee. The weather has been hot, allowing “la roya,” or coffee rust, to spread. Coffee rust is a fungus that infests the leaves of the coffee plant. The fungus spreads quickly in the hot weather, withering trees and sharply slashing production. The weapons of choice to battle coffee rust: spraying coffee plants with fungicide and cooler temperatures. Spraying costs money — money that small growers don’t have or are forced to borrow. The alternative — cooler temperatures — will arrive in August as part of the El Niño cycle. Even so, it will take months to years for coffee plants to recover.

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I do not have a position in any of the equities in this article and I do not plan to have a position. I the editor of the Daily Extreme Weather Briefing, the Global Extreme Weather Outlook, and also ...

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Richard J. Schwartzman 6 years ago Member's comment
A really enjoyable read, thanks Chris!
Chris Orr 6 years ago Author's comment
Thank you for the kind words.
Ilene Carrie 6 years ago Contributor's comment
Thanks Chris. Are some coffee retailers going to be hurt by the price increases?
Chris Orr 6 years ago Author's comment
The ones that will feel the pain will be the ones that are not diversified enough or don't have the ability to lock in long term contracts. Towards the end of El Nino and the end of the coffee price spike, those with the long term contracts like SBUX and DNKN may feel the pain as the price of coffee goes down and they are hanging onto expensive contracts. As an investor I would be watching to see how the large retailers hedge their 2016 contracts.
Chris Orr 6 years ago Author's comment
I go through earnings conference call transcripts and analyst webinars if they have them to find out what they are doing. For me, forecasting the weather trends is the easy part. I'm already working on next year's weather trends :-)
Ilene Carrie 6 years ago Contributor's comment
So it's not so much about whether coffee prices are going up but whether the company will profit, and that you research--find companies that have it figured out and strategized the best. How do you find out how the companies are hedging - how much? And then you have to predict the weather trends too?
Ilene Carrie 6 years ago Contributor's comment
Hi Chris, are you not assuming that coffee retailers will increase their prices higher than the prices increases for them, and that they trade with a positive correlation to the price of coffee. Do you have support for this assumption? Or am I missing something?
Chris Orr 6 years ago Author's comment
I am not making a recommendation on this stock, but an example is JVA which has a history of tracking coffee prices. JVA has been bouncing around quite a bit the last three months or so. But that's the kind of stock you want to look for.