Letter of thanks
2 February 2024
February newsletter (I couldn’t send it via e-mail)
22 February 2024
One of the commodities that has caught my attention in recent weeks is cocoa, particularly its fundamentals. Prices closed significantly lower last Friday after a strong five-week rally pushed cocoa to historic highs.
The substantial rise in cocoa prices has valid reasons. The intense seasonal Harmattan winds and insufficient rains in West Africa are drying up cocoa fields, causing damage to Ivory Coast's harvests. Monday's government data revealed that Ivory Coast's cocoa exports were 1.08 million metric tons from October 1, 2023, to February 11, 2024, marking a 38% decline compared to the same period last year.
In essence, unfavourable growth conditions and crop diseases in West African farms over the past year have hindered cocoa production, fuelling a surge in prices. This has raised concerns that the current production may not be sufficient to replenish stocks, potentially leading to a global deficit.
However, fears that record cocoa prices may harm demand have prompted long-term cocoa liquidation. Historic high cocoa prices are starting to curb global demand. On January 12, the National Confectioners Association reported a 3.0% year-on-year decrease in North American cocoa grindings to 103,971 metric tons in the fourth quarter. The Cocoa Association of Asia also reported an 8.5% decrease in Asian cocoa grindings for the fourth quarter compared to the previous year, reaching 211,202 tons. Finally, the European Cocoa Association reported a 2.5% year-on-year decrease in European cocoa grindings for the fourth quarter to 350,739 tons.
After completing the fundamental analysis, I move on to the graphical analysis, showing the cocoa term structure. To better visualise the various curves, on the left, you can see the current term structure chart, and on the right, the 5 and 15-year averages.
The two charts highlight the current backwardation in the first two deliveries compared to the 5 and 15-year averages. Then, starting from September, the curves, more or less steep, all have the same shape. Therefore, the anomaly, at least for the moment, is confined to the May and July deliveries.
However, the strong rally has led to a widening of spreads, as can be seen from the Seasonality Stacked chart below.
Compared to the previous 10 years, the CCU24-CCZ24 spread is decidedly at a higher price level. I chose the CCU24-CCZ24 spread as it is one of the cocoa spreads in my book on the best seasonal spreads, and I am more familiar with it. Alternatively, you can use CCU24-CCH25 (increasing the distance between the two legs will result in higher profit/loss as well as the margin required by the broker).
With the Continuous Histogram chart, you can see that the current spread price is not particularly extreme (also because it has been declining for some days), but still well outside the coloured zones, the 25th-75th percentile range (in pink), and even the 5th-95th percentile range (in green). In particular, the 25th-75th percentile range is in the negative zone, and in the last 55 years, the spread has spent 32.11% of the time in the positive.
The seasonality at this time of the year is bearish. As shown in the chart below, there is a long seasonal window that starts between mid-January and mid-February and ends between mid-July and mid-August. This extended seasonality allows for more entries, including one in mid-April to mid-May and in June, as highlighted in the chart by the progressively darker colour of the seasonal window.
To conclude, I show you the last chart, the C.O.T. (Commitments of Traders) for cocoa, which you can see below.
For several weeks now, a bearish divergence between price and Speculators net position can be observed.
In conclusion, the spread is undoubtedly interesting; however, the climate situation in West Africa needs to be closely monitored. Cocoa prices remain well supported; if problems persist in the coming months, then almost certainly, the September delivery will also be involved and purchased, causing the spread to rise against seasonality.
One of the commodities that has caught my attention in recent weeks is cocoa, particularly its fundamentals. Prices closed significantly lower last Friday after a strong five-week rally pushed cocoa to
I am a macroeconomic and financial analyst with over 30 years’ experience, including two years as a fund manager. I specialise in currencies and commodities, and I am the author of several successful books on trading, macroeconomics, and financial markets.
