Coffee – Calm before the Storm

For the better part of three weeks coffee prices have largely been range bound consolidating just above their recent lows. The market is in the process of digesting a massive Brazilian crop and the outlook for a potential record crop again next year. Brazil is the 800 lb. gorilla in the coffee market and should serve as a supply burden in the coffee market. Additionally coffee is factoring in a strong recovery in the Colombian coffee market. Colombian exports are increasing and their production is expected to near 10 Million bags in 13’ up from 7.7 million in 12’. Two bearish supply factors and likely good cause why prices will not return to the $140/150 level seen four month ago but I do think in the coming weeks we could see a $130 trade.

This week December futures look to gain for only the second week in the last five weeks on the back of a recovery in the Brazilian Real. Continued strength in the currency could ease pressure on exports that were previously being aggressively marketed. Technically speaking futures remain oversold and I would not rule out a short covering rally if we were to see futures trade above their 50 day MA (red line).

Coffee futures
Coffee futures chart for September 9, 2013

Assuming the bottom red line serves as support and with an objective at the upper red line drawn on the chart above I like the risk/reward dynamic, 2-3 cents of perceived risk and 10-12 cents of profit potential. My favored play is long December futures and using an options leg as protection, either purchasing a November put or selling a December call 1:1 against the futures.

The idea is to make more money in the future leg than you lose in the options leg but to provide a smoother ride and for no sleepless nights.

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