Jan 26
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Natália Gandolphi
Coffee Weekly Report - 2024 01 26
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- The NY-LN arbitrage explains and characterizes the current dynamic taking place in the coffee market. Robusta faces a shortage from Vietnam’s output, and possible shipment delays as well. Revisiting the 2007/08 cycle reveals Vietnam's significant crop failure, resulting in a decline in its global output contribution despite rising demand.
- The 2013/14-2015/16 cycles witnessed both arabica and robusta production being impacted by El Niño, leading to a global production deficit. Despite expectations of a shorter-lived El Niño currently, concerns arise about its potential succession by La Niña.
- Historically, the aftermath of arabica recovery and robusta deficits led to low arbitrage levels, raising concerns about future robusta stock recovery. The stability of arabica compared to potential challenges in robusta stocks may influence arbitrage, with current anticipation of downward stock trends. The structural change observed in 2017/18 is not expected to repeat itself.
NY-LN Arbitrage Fundamentals
At present, the coffee market is primarily characterized by the arbitrage between arabica and robusta. Robusta, favored by the market for its cost-effectiveness, has consistently faced lower production in its main origin, Vietnam, in recent years. The current Red Sea conflicts may potentially cause delays in up to a third of global coffee shipments.
On the flip side, arabica is slowly recovering from consecutive crop failures between 2019/20 and 2022/23, with the looming possibility of encountering another La Niña. To understand the current dynamics, we revisit the 2007/08 cycle, marked by Vietnam's significant crop failure (-23% YoY) when the country was a major global coffee player, contributing over 15% to the global output.
Despite production reduction in Vietnam due to decreased area and erratic weather patterns in recent cycles, demand has continued to rise. Consequently, the country is presently supplying the lowest share of robusta to meet market demand in over 16 years.
Figure 1: Total Coffee Production – Vietnam (M bags)
Source: hEDGEpoint
Figure 2: Global Robusta Demand (M bags)
Ratio – Robusta Production – Vietnam/Robusta Demand (%)
Source: hEDGEpoint
.
Between the 2013/14 and 2015/16 cycles, both arabica and robusta production faced challenges due to the impacts of El Niño. Following five years of a global production surplus, the balance plunged to -5.62 million bags.
Although the potential influence of El Niño persists for the development of the 2024/25 crop in Brazil, Indonesia, and Peru, there is an expectation that this El Niño episode will be relatively shorter-lived compared to the one a decade ago, lasting roughly 11 months as opposed to 15. However, it seems destined to be succeeded by its counterpart.
The critical question arises: the last time arabica was recovering from El Niño, and robusta suffered three consecutive deficits, arbitrage reached historically low levels. Yet, the significance lay more in the aftermath, particularly in terms of stocks. While global robusta stocks in destinations are still below pre-2017/18 levels, arabica has managed to recover in the interim.
The concern now is whether robusta stocks might struggle to recover in the future, creating a scenario where arabica remains more stable and consequently driving arbitrage to lower levels. Currently, stocks are anticipated to continue their downward trend, but the structural change observed between 2016/17 and 2017/18 is not expected to repeat itself.
Figure 3: Destination Stocks – Arabica, Robusta, and Total (M bags)
Source: hEDGEpoint
Figure 4: NY-LN Arbitrage (c/lb)
Source: ICE, Refinitiv
In Summary
The current coffee market is marked by the clash between arabica and robusta. Robusta, valued for cost-effectiveness, faces potential shipment delays due to Red Sea conflicts, while arabica is slowly recovering from recent crop failures. Revisiting the 2007/08 cycle, Vietnam's major coffee player status declined, but demand rose despite production reduction. In the 2013/14-2015/16 cycles, El Niño impacted both arabica and robusta, resulting in a global production deficit. Although a shorter-lived El Niño is expected in 2024/25, it may be succeeded by its counterpart.
The historical aftermath of arabica recovery and robusta deficits led to low arbitrage levels, raising concerns about future robusta stock recovery and potential impact on arbitrage. Despite current downward stock trends, a repeat of the structural change observed in 2017/18 is not expected.
Weekly Report — Coffee
Written by Natália Gandolphi
natalia.gandolphi@hedgepointglobal.com
natalia.gandolphi@hedgepointglobal.com
Reviewed by Alef Dias
alef.dias@hedgepointglobal.com
www.hedgepointglobal.com
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