What happens when it’s time to sell the cocoa beans?
The first rule of cornering a market – cocoa beans or anything else – is not to take delivery. It means the speculator has to pay in full and then pay again to store the commodity in warehouses. And a soft commodity such as cocoa beans deteriorates.
Far be it from me to say Anthony Ward and his Armajaro hedge fund do not know what they are doing in buying up 7 per cent of world cocoa production – hedge funds make their profits from talking contrary positions – but by holding its futures contracts until they expired, he has made making money from its squeeze harder.
There have been many attempts over the years to make money from cornering commodity markets – from tin to silver – but few succeed. First, except in small and illiquid markets, the speculators’ demand makes little impact in pushing up the price but it takes a large amount of capital to hold a position large enough to make a difference to supply.
That’s the advantage of using futures or other derivatives markets: by trading on the margin investors can take large positions with modest means - or allow their capital to go further. But that requires the coup to be exercised before the contracts expire, usually within three or six months, thus requiring a short spike in prices.
The difficulty in moving prices alone means the speculator should buy into a price trend and exaggerate it. Cocoa prices have certainly been rising: from £850 a tonne four years ago the price has reached £2,700 as consumption exceeded supply in each of those years and this season’s African harvest looks poor too.
But cocoa traded at £3,300 some 33 years ago so in real terms, so recent prices are cheap and the market has historical experience in coping with high costs. Consumers and confectioners can cut demand to match supply. Chocolate bars are getting smaller and the cocoa content is being cut. Customers will make their own change to cheaper bars with less chocolate content as prices rise.
Armajaro meanwhile has had to pay the £600m cost of its big bet and is paying to keep the beans in warehouses across Europe. With the market price now wobbling, the fund now must decide whether to invest more to secure its profits. But at some point it must unwind its positions, and 240,000 tonnes is an awful lot of beans to dump onto the market.
While vigorous and public buying can help push up the price of a commodity, getting out, especially in a falling market, requires steady and discreet sales that do not upset the market. And that is a real art.
