Cocoa – Commodity

Instrument description

Commodities are an essential part of people’s lives and include the food we consume, the metals in gadgets and electronic machines we own, and the energy we consume. Some of the common commodities include crude oil, cotton, wheat, gold, silver, lumber, rice, coffee, cocoa, and livestock. The agricultural products such as wheat, corn, cotton, rice, coffee, cocoa, and sugar are considered ‘soft commodities’ while metals such as gold, silver, copper, and platinum are called ‘hard commodities.’

Cocoa is considered to be a valuable agricultural commodity due to its diverse uses. Cocoa is the main ingredient of chocolate, which is extravagantly consumed all over the world. The cocoa liquid is widely used in making confectionery and chocolate products. The cocoa powder is used in making chocolate-flavored desserts and drinks. Cocoa butter is an important ingredient for cosmetic products such as soaps and moisturizing creams. The cocoa husks are used as feed for animals, as an ingredient of fizzy drinks, and manufacturing of soaps.

Cocoa is made from dried and fermented seeds generated from Theobroma Cacao plant, and the seeds are called cocoa beans, which are used to make chocolate. The global cocoa production touched a new record of 4.85 million metric tons in 2019. The top five largest producers of cocoa ranked according to metric tons (approximate) in 2019 are

1. Ivory Coast (2,154,000)
2. Ghana (812,000)
3. Ecuador (322,000)
4. Cameroon (280,000)
5. Nigeria (250,000)

Chocolate in numerous forms is consumed by millions of people every single day. The chocolate industry is alone worth nearly $100 Billion. According to chocolate consumption statistics, Switzerland leads the list with 19.4 pounds per capita, then Germany with 17.8 pounds, Ireland with 17.4 pounds, the U.K. with 16.8 pounds, and Sweden with 14.6 pounds. The global consumption of cocoa beans is more than 4.5 Million tons and the top five biggest importers of cocoa according to value in U.S Dollars are

1. United States - $3 Billion
2. Germany - $2.5 Billion
3. France - $2.2 Billion
4. United Kingdom - $2.1 Billion
5. Netherlands - $1.4 Billion

History of Cocoa

The Mayans are said to be the first people who began cultivating cocoa trees more than 5000 years ago and used the seeds to make a ritual drink. In the 15th century, Spain was the first country to get hold of cocoa beans, and till the 17th century, the popularity of cocoa had spread in the entire European region.

The cocoa trees are grown in a tropical climate and require the right balance of soil drainage, humidity, and regular rainfall to grow properly. The three common types of Theobroma Cacao plant and in the region they are grown are

1. Forastero, which is primarily grown in West Africa and South America
2. Criollo, which is mostly grown in Central America
3. Trinitario, which is grown mostly in all cocoa cultivable land

The Theobroma Cacao plant can grow as tall as 30 feet and give colorful flowers and white fruit. A cocoa tree grows full in five years and then produces cacao pods, which is the name is given to fruit that has reddish-orange or yellow colorings and hard shells. A cocoa tree can give cacao pods for ten years, but some can also be productive for long decades. The cacao pods grow from trunk and branches of the cocoa tree, and one cacao pod has an average of 40 to 50 beans. Once the fruits are ripe, the farmers will cut the fruits from trees and take out the wet beans and start the process of drying and fermenting.

Once the cocoa beans are dried, they are transported, and beans from different farms are collected in central collection units. The beans from different farms are mixed and filled in bags that weigh 200 pounds. The bags are then delivered to shipping centers and loaded on to the ships. The ships sail to common destinations that include the U.S, U.K., and the Netherlands.

Supply and Demand of Cocoa

Like every other commodity, the supply and demand of cocoa play an essential part in determining the price of cocoa in the global commodity market. Cocoa is commonly grown all over the world in tropical regions, but more than 60% of the cocoa comes from western Africa with Ivory Coast, the top producer followed by Ghana, Cameroon, and Nigeria.

The political unrest and labor union disputes can significantly affect the supply and lead to high prices. For example, Ivory Coast is the biggest producer of cocoa but faces a frequent rise in political tensions and economic instability, which considerably impacts the production of cocoa.

The weather conditions and climate changes also influence the production of cocoa as the cocoa trees require a certain amount of temperature and rainfall to prosper effectively. The rise of global warming poses a concern for the farming of cocoa trees and the overall supply of cocoa beans.

How to read the price change of Cocoa

Cocoa is quite a volatile commodity and allows traders and investors to diversify their portfolio and maximize their gains. Supply and demand are some of the major factors that determine the current and future price of cocoa in the commodity market. The cocoa prices are quoted in USD/MT, where USD stands for U.S Dollars, and M.T. stands for metric tons.

If we examine the Cocoa commodity chart, we see the Index trades from $2400.00 to $3000.00 per metric ton from July 2019 to the third week of February 2020. The Cocoa attained the highest value of $2992.23/MT on February 13, 2020. But the Cocoa prices saw a downward trend from the last week of February, and the Cocoa market has seen many fluctuations, the lowest value was $2168/MT on July 8, 2020. The Cocoa prices currently trade at $2168/MT. The Bid price is $2171/MT, while the Ask price is $2168/MT.

How to trade Cocoa

There are several ways to invest in the cocoa market, and popular options for traders and investors include Futures Contract, Exchange Traded Funds (ETFs), Contract for Difference (CFD), and buying shares of companies dealing in production and sale of cocoa.

The Cocoa Futures contract is traded on the New York Board of Trade (NYBOT), which is also part of the Intercontinental Exchange (ICE). The Cocoa Futures Contract is also traded on both the New York Mercantile Exchange (NYMEX) and Intercontinental Exchange (ICE). Investing in Futures can be tricky as interest rates and storage costs affect the pricing of cocoa. However, there is a difference in price quotation, product ticker, contract size, and contract months.

Cocoa Futures contract in NYMEX has

• Ticker: C.J.
• Price Quotation: U.S Dollars and Cents/ton
• Contract size: 10 metric tons
• Contact months: March, May, July, September, and December

Cocoa Futures contract in ICE has

• Ticker: CC
• Price Quotation: U.S Dollars/ton
• Contract size: 10 metric tons
• Contact months: March, May, July, September, and December

Another way to trade in the cocoa market is through CFD that allows short term traders to speculate on the price of cocoa without buying or owning the physical cocoa. The potential profit results from the value of the difference between the prices from the start of the trade to its closing. The advantage of CFDs is that traders can use leverage and profit from both the upward and downward price movements if there prediction is correct. However with leverage losses may also increase.

Another lucrative way to profit in the cocoa market is to invest in shares of famous cocoa companies such as Mondelez International, Hershey Co, Nestle, Meiji, and Ferrero Group. The companies usually make a wide range of chocolate-related products that are sold worldwide and have a constant demand. The cocoa companies generate huge amounts of revenue each year and give a good amount of dividends to the investors.

What causes the price change of Cocoa?

Like coffee, there will always be a constant and increasing demand for cocoa beans to fulfill various uses, and mostly for the production of chocolate. As the western African region is known for controlling 60% of the world's entire cocoa production, political instability and unrest cause a decline in the supply of cocoa.

The cocoa trees require the right balance of heat and rain, and changing weather patterns also cause uncertainty in the production and supply of cocoa beans. The longer periods of drought and insufficient rain will significantly affect the yield and cause the price of cocoa to increase.

As cocoa is an agricultural product, the production cycle is also a critical stage, which is known as the period from planting to harvesting. Farmers have to consider various factors and make decisions that can affect the future growth and prices of cocoa. But cocoa has a relatively long growth cycle, so the supply is not able to meet the growing demand, which leads to shortages and a rise in prices. Also, cocoa is regarded as a perishable product and can only be stored for a limited period.

The infrastructure and transportation of cocoa is also a key factor as cocoa is mostly grown in African regions that are underdeveloped and impoverished. The road network is not proper, and transportation is also not of high standard, which leads to disruptions in effectively managing the supply chain.

The changes in consumer taste and preferences also impact the demand for cocoa. In many developed countries, the use of dark chocolate is becoming popular as it is termed as healthy. But, dark chocolate requires more cocoa beans as compared to milk chocolate.

The living standards of many of the developing countries is increasing, which has also led to an increase in consumption of cocoa related products and particularly chocolate, which was a few decades ago considered a luxury. There is a noticeable rise of chocolate in Asian countries such as China and India that also have a vast population, which means cocoa production should be increased to meet the growing demand.

Apart from the futures contracts, most of the cocoa is traded in British pounds, and the fall in the value of Pound leads to an increase in cocoa prices in the U.K. As for the U.S Futures cocoa market, any changes in U.S Dollars also causes changes to the prices of cocoa.

The information above is for education purposes only and cannot be considered as investment advice. Past performance is not reliable indicator of future results.