The only way to be profitable
The only way to be profitable
26 September 2022
Psychology in trading
Psychology in trading
4 October 2022

The king of coffee

On 9 September, I opened my own Instagram account. The first photo I posted was about a coffee spread, more precisely the Seasonality Stacked of the KCZ22-KCN23 spread, with an invitation to complete the analysis.

Below you can see that chart.

KCZ22-KCN23 Seasonality stacked (SpreadCharts.com)

The spread was definitely in strong backwardation, Continuing the analysis I show you more charts. The Continuous histogram below confirms the extreme price of the spread.

KCZ22-KCN23 Continuous histogram (SpreadCharts.com)

The term structure (in backwardation), and the comparison with the 5-year (in red) and 15-year (in green) average, show the coffee anomaly.

The 5- and 15-year seasonal patterns show the bearish seasonality of the spread.

KCZ22-KCN23 Chart with seasonal patterns (SpreadCharts.com)

A little confrontation ensued (not that I have many followers now, but the day I joined Instagram there were even fewer). The trend was for a decline in the spread. Two days later I published my fundamental analysis of the coffee, which I quote in full.

“Coffee prices Friday settled mixed. Arabica coffee prices rose Friday after the Cooxupe cooperative, one of Brazil's biggest coffee producers, said it sees Brazil's 2022/23 arabica crop falling -by 11% y/y to 4.0 mln bags as dry weather caused smaller yields. Arabica prices also gained from strength in the Brazilian real after the actual Friday climbed to a 1-week high against the dollar.

On Thursday, arabica dropped to a 2-week low on Brazil harvest pressures after Cooxupe reported that Brazil's coffee harvest was 95% completed as of Sep 2. Coffee producer sales typically increase during harvest time to make space for storing their newly picked crops.

A supportive factor for arabica is reduced coffee supplies from Colombia. The Colombia Coffee Growers Federation reported Monday that Colombia's Aug coffee exports dropped -21% y/y to 872,000 bags. Also, Colombia's Jan-Aug coffee production is down -7% y/y at 7.3 mln bags. Colombia is the world's second-largest producer of arabica beans.

Coffee prices also support the concern that excessive dryness in Brazil will reduce coffee yields and curb global coffee supplies. Somar Meteorologia reported Monday that Minas Gerais had only 0.1 mm of rain in the past week or 1% of the historical average. Minas Gerais accounts for about 30% of Brazil's arabica crop.

Forecaster Maxar Technologies recently said that La Nina weather conditions are likely to last through the end of the year, which suggests below-normal rain for Brazil through year-end. That would exacerbate drought conditions and further stress Brazil's coffee crops.

In a bullish factor, Rabobank on Monday said the global 2022/23 coffee market would be in deficit by -1.3 mln bags, versus its earlier projection of a surplus of +1.7 mln bags. Rabobank also cut its 2022/23 global coffee production estimate to 169 MMT from its previous estimate of 172.3 MMT.”

I then added: “My question is: will seasonality be respected this year?”

Finally, to the question "How do you see it?" I replied: “Everything depends on the drought in Brazil and, consequently, on the coffee yield. If this situation persists, I highly doubt that we will see a return to contango this year. This doesn’t mean that the spread can’t fall slightly over the next few days, but personally, I will not take a risk in a trade where the odds are not on my side.”

Now I show you the chart today.

KCZ22-KCN23 Chart with seasonal patterns (SpreadCharts.com)

The title is a provocation, I am not the king of anything. Reciting an Italian advertisement, I am just the CEO of my time. What I keep saying and writing is that if you want to become profitable traders, and by profitable traders I mean traders who earn money every month, consistently, you must have the odds of success on your side. Having the odds of success on your side does not mean that you will close all trades in profit, but that you will do so most of the time. The addition of proper position size and adequate risk management will allow you to make trading a profitable profession.

And how do you get the odds on your side? By making a complete, clear and correct analysis of the market; in this case coffee and the KCZ22-KCN22 spread. There is no other way. You have to know exactly what the current situation is and this will be given to you by a 360-degree analysis that will tell you “the market will most likely go up”, or “the market will most likely go down”, or “the market is uncertain”. Afterwards, you will put this information into your trading plan (because you must have one) and act accordingly.

Get it into your head that trading is a job that requires time and effort, as well as knowledge and experience. It is not a game like betting on the victory of a football or basketball team. How can you invest your savings in a market whose dynamics, fundamentals, and current situation you ignore? If you think it is enough to subscribe to a statistical database, look at two or three charts and apply a bit of technical analysis that you have been taught in courses by some "guru", know that if you are lucky you will end the year in substantial break-even.

I did exactly that. My analysis suggested that I did not open any bearish trades as the conditions were not favourable, the odds were not on my side as an increase in the price of coffee was against my trade (and the fundamentals suggested this). On the other hand, those who relied only on seasonality have lost or are losing money. I always say it again, if you are not willing to work hard, give up trading, and don't throw your savings away.

I conclude by inviting those who wish to learn how to trade correctly and professionally to join me on Instagram https://www.instagram.com/tradingwithdavidoriginal/ where I will talk about currencies, commodities, financial markets, economies and more.

On 9 September, I opened my own Instagram account. The first photo I posted was about a coffee spread, more precisely the Seasonality Stacked of the KCZ22-KCN23 spread, with an invitation to complete the

David
David
David is a trader with over 25 years of experience (two years as a fund manager) in currencies and commodities. He collaborates with a major European commodity investment company, and he is the author of several successful books about trading and financial markets.

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.