Hot Coffee Needs To Cool After Steaming Arabica Rally

It has served up some of the hottest returns this year in commodities. But new investors to arabica should resist the urge to jump right away into the premium coffee bean market, which is overpriced after a rally in four of the past five months.

As trading for September began on Monday, arabica ruled the roost in the commodity crop world, with a year-to-date return of 52%. 

Such bloated gains also diminish the potential for new entrants in the market, with charts indicating that a drop of at least 5% or more will be needed to justify the risk for fresh long money eyeing a good payback from the coffee of choice for chains, such as, Starbucks (NASDAQ:SBUX) and Restaurant Brands International (NYSE:QSR) owned, Tim Hortons. 

Without the correction, debutants in arabica may still win, but also face the hazard of a downside that might not be very far away, says Sunil Kumar Dixit of SK Dixit Charting in Kolkata, India.

All charts courtesy of SK Dixit Charting

In Wednesday’s pre-New York session, the most-active arabica contract on ICE Futures US was at around 1.95 per lb.

Said Dixit:

“It needs to come down to the $1.85 support level, to justify the risk for new money coming in. Investors who jump the gun may be left holding the bag when arabica finally corrects from the excesses of the past two quarters.”

Arabica peaked at a near 7-year high of $2.15 in July, and a relatively-low close of almost $1.80 that month had led to a bullish engulfing formation with a pattern target reaching $2.45, said Dixit.

As such, the continuation of arabica’s bullish trend will be subject to prices holding above $1.91 in the short term and $1.81 in the short to medium-term. 

Added Dixit: 

“The coffee brew smelt great last month when it hit $2.15 but the lid blew off and it closed at sub $1.80 prices. The current month shows upside bias but momentum and volatility appears to be limited due to a very overbought reading.”

Arabica’s Stochastic RSI at 97/97 on the monthly chart showed odds in favor of some healthy price reversal and distribution, he said.

“This can force a break below $1.81, and open the gates for a further downside of $1.68 to $1.62.”

“It’s easier for arabica to re-energize for a move higher if it comes back to a good support level now, such as $1.85.” 

“Post this significant correction and distribution, coffee should build a robust base for relaunch to test the resistance areas of $2 and above, then break free above $2.15 and start heading for $2.25.”

Fundamentals will need to play their part too for arabica to stay bullish, said Jack Scoville, chief crop analyst at Chicago’s Price Futures Group.

While the premium coffee bean did see a bout of volatility in mid-August, its path upward has been little challenged, thanks to a crop freeze in top growing country Brazil.

Said Scoville:

“The current Brazil harvest is starting to wind down with smaller production."

“Brazil forecasts call for above normal temperatures for at least the next week, but the damage from the freeze a couple of weeks ago is easy to see. It is flowering time for the next crop, but the dry weather is helping to keep the flowers from appearing.”

Due to the process, some trees were killed and had to be replaced, he added.

“The current outlook calls for 10 days of dry weather which will not support the flowering but will keep the harvest active.”

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Disclaimer: Barani Krishnan uses a range of views outside his own to bring diversity to his analysis of any market. For neutrality, he sometimes presents contrarian views and market variables. He does not hold a position in the commodities and securities he writes about.