By Adam Graves, Global Risk Management Inc.

Early expectations for West African production to fall as much as 10% from prior year’s levels in the 21/22 season started in October, and there is optimism around global demand improving from record 20/21 levels as the countries across the world shift out of pandemic-induced restrictions and supply chain issues ease. Should these two factors come to fruition, one can easily infer that the 21/22 season will likely have a much tighter balance sheet than 20/21. Last season a La Niña weather pattern aided record global production. Grind last season, despite looking like a record figure as well, was subdued by COVID-19 lockdown measures. In fact, as it pertains to this current season, early analyst guesses currently peg the 21/22 global cocoa deficit somewhere in the 100 TMT – 150 TMT range.

Armed with the belief that this season will see a deficit, one may intuitively think that there is an upward bias on cocoa futures prices. How have prices historically reacted when this is the case?

This price study aimed to see how December cocoa futures in the deferred year performed in the period from the prior December (referred to as t-1 from here on) through March of the contract year, versus the November highs and lows that precede the December(t-1) – March horizon. Dating back to 1983 (38 years), there have been 17 years of global cocoa supply deficits. In all 17 of those years, the deferred December cocoa futures contract has traded above the November(t-1) highs in the December(t-1) – March period. The average upside risk when this occurred was +11% versus the November(t-1) high. On the other hand, in 11 of the 17 years (65%) in which a global cocoa supply deficit occurs, deferred December futures traded back below the November(t-1) low over the same horizon as above. The average downside was -2% versus the November(t-1) low. If one were to apply these averages to the November high and lows for the December’22 (CCZ22) cocoa futures contract, it leads to upside risk of $2881/MT versus downside opportunity of $2341/MT. This compares to Monday’s close of $2492/MT.

Each year brings with it an individualistic and unique fundamental picture, but if history has anything to say about cocoa futures, it would be that prices face more upside than downside over the coming months from current levels.

Commodity trading is not suitable for all investors. There is an inherent risk of loss associated with trading commodity futures and options on futures contracts, even when used for hedging purposes. Only risk capital should be used when investing in the markets. Past performance is not indicative of future results.