Why are Coffee Prices Soaring?

Joel Anderson  |

The price of coffee has undergone a rapid shift in just a few months, going from record lows to a two-year high in a matter of months. The price at the pump, so to speak, hasn’t shifted and likely won’t in the near future as consumers shell out the same price for a cup of joe they always have, but it represents a fairly volatile move for the commodities market and for farmers pinning their livelihood to their crop.

And the reason for this huge swing? This price change that affects millions? The weather in Brazil.

Simply put, the weather in Brazil in 2013 was rainy. Very rainy. So rainy it resulted in the nation, the world’s largest coffee grower by a wide margin, producing more than 7 million more bags of coffee than it had the year prior. And, given the cruel nature of supply and demand for the agricultural industry, that bumper crop meant crashing prices.

The spot price of coffee tumbled all the way to just over $1 a pound on commodities markets, a level so low many coffee growers were forced to forego harvesting their beans as the price of collecting their crop exceeded the value they could expect on the open market. Brazil and Vietnam, the world’s second-largest coffee grower, both enacted government actions to support prices and allow farmers to store beans, hoping to ease price pressures.

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Well, the coffee markets didn’t have to wait long. The first quarter of 2014 saw as dramatic a reversal of fortunes as one will ever see on the commodities markets as spot prices soared, reaching a high of $1.77 a pound in mid-March. The cause? Not enough rain in Brazil.

Brazil’s rainfall has been so bad in 2014 that, according to this report from cabi.org, there’s never been a recorded two-month period this bad in Brazil. Ever. Or, at least, there hasn’t been from 1950 to present. The records are spottier prior to 1960, so it’s hard to know for sure. And this unprecedented drought is resulting in a huge downswing in coffee production, which is, in turn, driving prices higher to the tune of over 75 percent. Farmers, meanwhile, have gone from crops so plentiful there was almost no point in harvesting them to conditions so harsh they're struggling to bring anything to market.

Of course, while commodity traders and Brazilian farmers must be feeling about as whipsawed as possible by this ridiculous change in fortunes, the average coffee consumer hasn’t noticed a tremendous change. Companies like Starbucks (SBUX) contract from specific growers for premium coffee that isn’t on the commodities markets. And almost any company selling coffee direct to consumers is using futures contracts to smooth out these sorts of price fluctuations.

However, those ETFs that offer exposure to coffee prices are off and running in 2014, representing the top gainers of the year so far. The iPath Dow Jones-AIG Coffee Total Return Sub-Index ETN (JO) is up almost 60 percent this year, and that's including a pullback in mid-March from where prices peaked. From the start of the year to
March 11, the gains were just under 90 percent.

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