Will the Cocoa Rally Melt Away?
Fundamentals
Cocoa futures are building on Friday's gains in early trading, after data suggested that Cocoa demand had fallen less than expected. Cocoa grindings fell 6.8 percent in the second quarter of the year, versus a drop of 13% for the first quarter. The median estimate for the number was 11%. This can be seen as bullish, as traders had priced in a very meager improvement in demand. The better than expected numbers come on the heels of poor European, German and Malaysian grind numbers, so it will be interesting if this rally will have legs. Prior to the release of the grind number, Cocoa had begun to move higher on the idea that Ivory Coast production will be weaker than previously expected. At this point, the fears over the size of the Ivorian crop may not be warranted. The Ivory Coast government is rumored to have started spraying crops with pesticides, which would reduce the chance of black pod disease. Looking to the east, traders are concerned that the Indonesian crop may be impacted by the el Nino wind pattern. Like the Ivory Coast weather, this is only speculation at this point, with no hard data to support the concerns. The Cocoa market has received some outside market support in recent sessions, as Crude Oil prices have risen for four straight days. Commodity investment seems to take its cue from the petroleum sector, so further rallies in Oil could offer additional support.
Trading Ideas
Some traders may decide to take the cautious approach when dealing with the Cocoa market. Fundamentals have improved with the North American grindings data, but lingering doubts may detract further buying. Also, technically, the market may need to confirm a breakout before some buyers decide to enter the market. Due to these factors, some traders may opt to take the wait and see approach. If the nearby September contract is able to post several closes above the 2900 level, some traders may possibly wish to consider entering into the market with a long futures contract and a fairly conservative stop at 2775, and an upside objective of 3150. If and when prices test the 3000 market, some traders may wish to consider adjusting the stop 100 points higher to 2875.
Technicals
Turning to the chart, September Cocoa remains in the wide range between 2300-2900. Prices are in the upper end of the range, so traders will be keeping a close watch as to whether or not prices are able to signal a breakout if the market remains in a sideways range. The chart shows the market has made the measured moves from both the small double-bottom and bull flag that had recently developed. The RSI indicator and slow stochastics are both showing overbought
conditions, which could hamper rallies. The previous three times the RSI has shown overbought levels, prices fell back.
Rob Kurzatkowski, Senior Commodity Analyst
