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Home > Futures > Soft Futures > Softs as a Market

Softs as a Market

A collage consisting of Coffee, Sugar, Cocoa, Orange Juice and Lumber

Soft Futures: The exotics are a diverse market to say the least. The lack of a market, such as energy or livestock, means no one broad source for fundamental data covers these products, not even the USDA.

There is no clear definition of the softs market. Cotton, sugar, coffee and cocoa certainly belong, but orange juice and lumber are somewhat fringe members. Even the traditional four are linked with little more than sporting either colors identical or opposite their counterparts. Softs are the black and white of the industry indeed.

While some - coffee and cocoa - grow in nearly tropical climates, others - cotton and orange juice - do well in moderately milder regions. At least one, lumber, can grow nearly anywhere, and sugar can begin either as a beet in chilly Ukraine or as cane in sweltering Brazil.

Hold the Sweets

sugarcubes.jpg The world's most traded sugar contract is at ICE Futures U.S., where the futures' volume is five-fold that of its nearest competitor. The 83-year-old futures call for delivery of 112,000 lbs. of raw centrifugal cane sugar from any of 29 countries to a port in the country of origin.The sugar cane season starts in September and ends the following August. Sugar cane requires a moist, tropical climate to thrive. Thus, it mostly comes from countries such as Australia, Brazil, Cuba, India, Mexico, South Africa, and Thailand. India is the world's largest producer of cane sugar. But the country consumes nearly all of its sugar, and lacks the infrastructure to increase exports dramatically. Instead, Brazil is the world's largest exporter.

While the contract calls for the delivery of sugar cane, nearly 36% of the world's sugar supply comes from beets. Conveniently, sugar beets grow well in cooler climates, such as Europe and the United States. Europe produces the most beets by far, and despite sugar cane's dominance on a macro level, the European Union (EU) beet crop is the largest concentration of sugar production in the world.

If you want to treat the European Union as one country, it is the world's largest producer of sugar. Thus, anything affecting the European beet market - from weather extremes that could hurt crops to EU sugar policies - is a market-moving factor.

Sugar demand is rising worldwide, with declines elsewhere more than made up for by the developing countries of Asia.

One statistic that offers a picture of tightness in the sugar industry is the stocks/consumption ratio - the percentage ending stocks are of that year's domestic consumption. If the ratio is high, it's bearish. If the ratio is low, prices tend to rise. But you can't pay too much attention to set levels. Figures developed by different statistical sources vary greatly.

The Blended Market

coffee_beans1.jpg ICE Futures U.S. also boasts the world's leading coffee contract. The contract calls for delivery of 37,500lbs. of arabica coffee, from various countries at appropriate differentials.

Coffee trees constantly produce their crop - a cherry-sized fruit whose seed is the coffee bean - even during harvesting. Thus, a slim taking may follow a bumper crop, as the tree's resources are devoted more to maintaining its mature bounty than developing next year's buds. But small takes don't always follow bumper crops. The cyclical pattern may emerge as a slower rate of growth in a rising, multi-year production trend.

Of course, weather can shock coffee production significantly, especially in higher regions of South America. The American summer coincides with the winter in Brazil. In the months of June, July and August, coffee tends to trade on weather.

As with sugar, two types of coffee dominate world production - arabica and robusta. Arabica coffee is somewhat stronger than robusta coffee and comes mainly from Western tropical regions, such as Brazil and Columbia.

Indonesia is a large producer of robusta coffee. Taiwan is another major contributor with about 4 million bags. The Ivory Coast produces only 14% of Brazil's production, but the African nation exports most of that, or nearly one quarter of Brazil's exports.

Because major producing countries don't forecast their crops with much regularity or quality, traders must rely on broad estimates from the USDA and professional analysts for supply statistics. The statistical record for many producing countries is very unsatisfactory. It's a fair generalization to say many third world countries don't consider providing statistics a top priority.

The United States once consumed 66% of the world's coffee. Now that's down to 33%. Analysts point to America's growing health consciousness, coffee's inconvenience compared to other beverages and its image problem as reason for falling demand - "its no longer hip to drink coffee," one analyst says.

Despite the long-term downtrend in U.S. coffee consumption, short-term variations tend to be small. U.S. coffee demand is price inelastic - buyers don't alter their purchases much because of rising or falling prices. Large price swings, though, such as those in 1994 and 1997, can shock coffee use downward.

Golden Chocolate

chocolate.jpg Cocoa contracts are for 10 metric tons of cocoa. Cocoa is slightly more tropical than coffee. But, like coffee, cocoa comes from the seeds of the fruit of a tree. The yellow fruit can be harvested around six months after successful pollination of the tree's bloom. The seeds are removed and processed, leaving cocoa butter.

Early season heavy rains are a typical culprit with cocoa as they hamper flowerings. "During the initial part of the growing season, you need moisture like most crops," says one cocoa analyst. "But during harvest, if it's too wet, most producers don't have the technology to get the crop immediately indoors."

The Ivory Coast crushes other would-be producers, logging 40% of the world's total. Ghana is second, contributing 15% to world production. Indonesia and Brazil are other major contributors, with 10% and 7%, respectively.

World demand growth, though, is centered mostly in Asia and Eastern Europe. Large chocolate companies such as Nestle are investing a lot in infrastructure, which should support a 4% to 6% demand growth rate, according to some estimates. Health concerns are checking Western demand, keeping that regional growth between 1% and 3%.

The Netherlands, the United States, Germany and the United Kingdom are large users of cocoa. With grindings the standard barometer of use, the Netherlands is tops, grinding nearly 300,000 metric tons in 1996. The United States ground about 250,000 metric tons. Germany ground just under 200,000, and the United Kingdom came in at just over 140,000.

But grindings as a market gouge may lose significance. Grinding operations are shifting to producing countries for economic reasons. Third world countries such as the Ivory Coast, Indonesia and Malaysia are lacking in quality reporting. "Those producers often don't know themselves what their volumes are," one analyst says.

Cloud Puffs

threads.jpg These 126-year-old contracts call for 50,000 lbs. of cotton. Cotton typically is planted in April or in May, and the first few weeks of development are crucial. Cotton does not like cool weather. April and May temperatures for the South have been some of the coolest on record. There is no recent period the current situation compares to, which may leave the market hanging until harvest.

China has led the world in cotton production for years. Uzbekistan is the world's second leading exporter. Government reporting for third world producers lacks for cotton as well as other softs, but for some countries, such as India and Pakistan, university extension services provide quality statistics. These generally come by way of the universities or wire services.

While China exports extremely little compared to other exporters, its demand role is huge. China's stocks also underline the country's significance. These again are approaching half of world stocks.

The United States is a large consumer of cotton. Use has trended higher due to consumers' favor for cotton clothing. Textiles have a thin profit margin. It's made worse by competition from man-made fibers, such as polyester and rayon which are far cheaper than cotton.

Orange Juice Concentrate

Oj.jpg The frozen concentrate orange juice futures at ICE Futures U.S. have the second slimmest volumes of the softs. The 15,000 pounds of orange solids specified by the contracts can come in drums or tanks, at the sellers option.

The United States and Brazil outpace all others in orange juice production.

The orange crop is another commodity more susceptible to weather than most. Systems such as hurricanes, freezes and tropical storms can shock the market into the stratosphere if they hit at the right time. It's obvious why. More than 98% of the U.S. crop comes from Florida, a geographic concentration soybean crushers would dread.

Another measure of the orange juice supply is the number and quality of citrus trees, a number published bi-annually by the Florida Agricultural Statistics Service. The report also breaks down trees by type - 1996 orange trees up 3% to 84.2 million, of which 78.5 million produced fruit, for example.

A tree can take as long as 15 years to reach maturity.

Once a supply pattern becomes established, unless there's a weather surprise, we're likely to see it continue at the same rate. While the United States produces a great deal of oranges, its not always enough to feed America's thirst for frozen concentrate orange juice, which the country is importing at near-record levels. While U.S. dependence on the primary contributor Brazil has increased recently, analysts predict imports are leveling off.


timber.jpg While volume has fallen for Chicago Mercantile Exchange (CME), lumber as of late - 1985 volume was 581,548; 1995 volume was 182,686 - it rebounded to 304, 214 in 1996. Cutting the contract size in half part way through the year certainly had something to do with that, but another reason has been the five-year agreement between the United States and Canada that limits the amount of lumber Canada can export free of fees.While the fee quota - graduated fees start after the first 14.7 billion board feet of lumber imported from Canada per year - hasn't restricted the supply of lumber from Canada yet, concerns over possible supply squeezes have produced more volatility in lumber.

The trade pact will have a huge impact in strong consumption years; it will have a minimal effect in weaker years because you need to get consumption up to a point where excess supplies of Canadian lumber are required here in the U.S.

For consumption, housing starts, repairs and remodeling numbers, interest rates, new housing and existing home sales are all important. Building permits is a more forward-looking statistic. But again, the slew of sources for statistics, from Realtor associations to the U.S. Commerce Department, makes analysis daunting. Despite the slight lag time, the sources are timely enough for traders.