What is the Unasked Question in the Cocoa Market?

• Cocoa is the latest in a growing list of Softs sector markets that has made an historic move of late. 
• Early Friday morning saw the nearby May futures contract climb above $8,800 (per metric ton), up 113% from its close on December 29, 2023.
• What is creating this parabolic move, short supplies or increased demand? 

I was asked if I would write a piece about cocoa. Not because I’ve written about the market before (almost a year ago at this point), nor because I’ve done a couple interviews with my friend Myra Saefong of MarketWatch, but because cocoa continues to be a “hot” commodity (pun intended). In fact, you can search the Barchart news page and find at least a half dozen recent pieces on the market. What’s interesting about most of the writings is not the content, but playing the game of guessing which side of the aisle the author sits on. For example, if the piece follows the mantra[i]of, “It’s all Biden’s fault because of – well, you know – inflation…”, then the writer is seated on the right. The more exuberant and exasperated the rant, the further to the right the seat. Then you have those making the claim, “It’s global warming!” over on the left[ii]. Again, the more heated the fervor the further to the left the author. 

As usual, the reality of the situation falls somewhere in between. Like all the other production agriculture commodities, cocoa is a weather derivative at heart meaning we need to look at two things: First, where is most of the world’s supply grown? Second, what is going on with the weather in that part of the world? Once we establish those to facts we can answer the big question about cocoa: Is it a supply driven market or demand driven market? 

What’s the difference, you ask? When we think of a supply driven market, it usually brings to mind what is called in the industry a “weather market” meaning short-term supplies are threatened by adverse weather. A weather market usually results in an explosive short-term rally that falls apart once we get to the next harvest and new supplies become available.  

The flip side of the coin is a demand market. Here the standard definition is “new demand pulling on steady to growing supplies”. This creates a long-term change in price expectations versus the more short-term nature of a short supply situation. One of the better examples of a demand market is what happened in corn with the passing of the US Energy Policy Act of 2005 that included the new renewable fuels standards. This lit the fire under the US ethanol industry, pushing the National Corn Index (ICY00), the national average cash price, out of its historic range from roughly $1.50 to $3.00. Initially the NCI rocketed to just north of $7.00 (June 2008) before eventually climbing to $8.25 (August 2012) before settling on a range between roughly $3.00 and $4.50[iii] from June 2014 through December 2020. 

So which situation best fits cocoa in late March? Let’s establish our two key facts: 

• Reportedly, roughly 60% of global cocoa production comes from West Africa, most notably Cote d’Ivoire and Ghana.
• The El Nino weather pattern that brought some relief to South America recently (see coffee and orange juice long-term charts) meant much hotter temperatures and more humidity for West Africa.

While researching this piece, I found a good article written by Rich Asplund that detailed many of the raw supply and demand numbers for West African cocoa trade. The bottom line is, due in large part to weather, supplies aren’t keeping up with demand. However, the area has seen this type of weather event before, according to Asplund, most recently back in 2016. (Something else I liked about this piece is he used the stocks-to-grindings ratio to talk about the tightest supply and demand situation in “more than 40 years”.) 

But what about demand? Again, as I was doing some research I did not find anything talking about new uses for cocoa outside of what is viewed as industry norms. It isn’t being turned into fuel, unless you count those around the world who depend on a hit of chocolate to 1) get their day going or 2) unwind at the end of said day. The one asterisk we might attach to this idea of demand is strong consumerism around the world, seemingly without regard to price. I don’t that this is necessarily true with chocolate as there is starting to be some pushback on high prices of candy heading into the Easter holiday[iv].

The bottom line is cocoa looks to be a supply-driven market at this time. How long it lasts is hard to say, but it is hard to imagine buyers lining up with the nearby May futures contract (CCK24) finding its way north of $8,800 (per metric ton) early Friday morning. As mentioned above, we’ve seen similar historic moves in orange juice, coffee, and sugar the last couple of years before a change in weather brought those markets back toward earth. Unless some type of new demand is developed for cocoa, I would expect the same thing to happen. But we are talking about West Africa, so the idea the area could go through another hot growing season is not out of the question. 

[i] Used for nearly every occasion in almost all conversations. So much so it has lost all meaning and is viewed as a joke to the rest of the world. 

[ii] Again, a claim that is used so often it has turned into a running gag. Example, “Why did the chicken cross the road? Global warming!” 

[iii] Note how the range was about the same, approximately $1.50, but had shifted up.

[iv] A couple ideas I had for the title of this piece were: Easter Comes at a Price, and The Easter Bunny Drives an Armored Truck

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