All's Quiet on the Cocoa Front
Fundamentals
After last week's rally attempt fizzled, lead month September Cocoa futures have once again become range bound, with prices hovering between 2900 and 3100 per ton the past several weeks. This is historically a quiet period for Cocoa, as traders await the fall harvest period in the West African growing regions. Growing conditions in the Ivory Coast, the world's largest Cocoa producing nation, have been good so far, despite recent heavy rains that have introduced some crop diseases, such as black pod disease, to some production areas. However, weather conditions are expected to improve this week, which should aid main-crop production. In addition, improving weather could help mid-crop movement in the Ivory Coast, which saw its exports down over 25% from year ago levels. There remains quite a bit of uncertainly regarding Cocoa demand later this year, especially out of Europe, as the uncertainty regarding the "debt crisis" as well as proposed "austerity" programs to address these issues could lead to curtailed demand for so-called "luxuries". The most recent Commitment of Traders report shows speculators still have a chocolate craving, with non-commercial and non-reportable traders holding a combined net-long position of 31,555 contracts as of June 29th. There is an old saying that "one should never sell a quiet market short," and those traders who follow the "softs" know these markets can move violently should a catalyst come into play. One look at a Coffee futures chart for this year should prove the merits to this old trader's verse. Although the Cocoa market is quiet now, traders should not become complacent, especially if we start to see the market move above or below its recent $200 plus trading range.
Trading Ideas
Some traders who expect cocoa futures prices will not remain in the relatively tight trading range for long may wish to consider exploring trading strategies that could benefit from a large move in either direction or a sharp increase in volatility. One such strategy would be buying strangles in Cocoa futures options. An example of this trade would be buying the December Cocoa 3200 calls and buying the December Cocoa 2800 puts. With December Cocoa futures trading at 2962 as of this writing, this strangle could be purchased for about 270 points, or $2700 per spread. The premium paid would be the maximum risk on the trade, and the position would be profitable at option expiration in November should December Cocoa be trading above 3470 or below 2530.
Technicals
Looking at the daily chart for September Cocoa futures, we notice the market moving into an ever narrower price consolidation starting at the beginning of May. The 20 and 100-day moving averages have converged right at the 3000 price level. The market settled on Tuesday right on the trend line drawn from the recent lows made on May 17th near the 2940 area. A close below this support level could set-up a test of psychological support near the 2900 area. Should this support level hold, the next major resistance area is seen at the top to the downtrend line drawn from the May 4th high near 3130.
Mike Zarembski, Senior Commodity Analyst
