Selling (Going Short) Cocoa Futures to Profit from a Fall in Cocoa Prices

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Cocoa futures contracts launch despite price fall

Two new euro denominated cocoa futures contracts have launched, competing for trading volumes. But uncertainty remains as cocoa prices and global demand for chocolate weakens.

  • Cocoa ETFs have continued to see outflows in recent months halving AUM
  • Nestle expected to pay the largest dividend in Europe by 2020
  • Hershey’s is the most short sold chocolate maker ahead of Easter

Exchange rivals launch new euro cocoa futures

Exchange operator CME has launched a new euro denominated physical cocoa contract in conjunction with a US dollar cocoa futures contract. ICE, the incumbent cocoa provider which oversees the two existing US dollar and sterling denominated cocoa contracts, has followed suit with its own euro denominated contract. These developments ought to please the large European chocolate makers, which represent approximately 60% of global chocolate manufacturing and stand to benefit from a reduced foreign currency exposure to the dollar.

This potential uptick in new trading comes despite a recent slump in the price of cocoa which now trades 17% below (in USD/metric tonnes) highs reached last September. Most of the recent price fall looks to have been driven by a reduction in demand from the European and US markets. Despite the recent falling demand, the price of cocoa actually registered a new high last year amid fears of a possible shortage.

The recent cocoa price decline saw ETP investors last year withdraw $18m from cocoa tracking funds and a further $5.8m this year to date. Although the niche ETP category is relatively small, the outflows represent a significant portion of total AUM which has almost halved from $79m to $37m in the last 12 months.

Both of the largest cocoa ETPs track dollar denominated contracts, meaning that the advent of euro denominated futures could open the door for broader uptake among European investors.

Swiss Easter dividends

The recent slump in cocoa could be a boon for income investors as Markit Dividend Forecasting expects Nestle, the third largest Cocoa consumer, to become the biggest dividend payer in Europe in 2020 (in euro terms). The recent Swiss franc surge has been a key driver as the firm is committed to increasing the dividend level in Swiss francs, and a fall in input cost will only help the firm. Nestle has managed to raise its dividend between 2.3% and 5% for the past four years. Markit Dividend Forecasting is currently expecting a 2.3% dividend increase next year.

Fellow chocolatier Lindt has reported even higher dividend growth, and the company’s payout ratio has risen to 50% over the past three years. 2020 saw the dividend increase by 11.5% and Markit’s forecast for fiscal 2020 is for repeated double digit growth, with the payment up 10.3% in line with consensus earnings expectations.

These European successes contrast with the US chocolate market where Hershey Co has seen its short interest surge in recent weeks despite the slump in cocoa price. There are now over 3% of Hershey’s shares out on loan – making the company the most short sold chocolate maker globally.

Investing in cocoa: A how to guide

A guide to investing money in cocoa

Last updated: 6 April 2020

What’s in this guide?

Here we discuss how you can invest in cocoa and the risks that come with it.

3 ways to invest in cocoa

We run through the most common and accessible methods:

1. Invest in cocoa ETFs

ETFs allow you to invest your money in a range of assets rather than focussing your investments on one or two firms. To find out more about ETFs have a look at our comprehensive guide.

ETFs are a fairly accessible way of entering the market and function in a similar way to normal stocks. They are often seen as a more straightforward, and less risky, way of investing your money. Trusting your money to a collection of assets makes your investment more resilient to the fluctuations of the market.

If you are a newcomer to the investment world ETFs may be something to consider, and due to cocoa’s popularity there is no shortage of ETFs to choose from.

  • By investing in the basket of assets that make up an ETF you sacrifice some of the control you might have had by investing in a single company.

2. Purchase cocoa futures

Buying futures allows you to invest in cocoa stocks at an agreed price to receive at a later point in the future. Whether you make great returns on your investment or lose money depends heavily on the movements of the market.

Futures are direct but risky, vulnerable to market fluctuations they rely heavily on the buyer’s knowledge and a small shot of luck. A system which can punish the buyer just as easily as rewarding them, market newcomers may want to gain some experience first.

  • Futures expire if they aren’t used within the agreed-upon period, making them worthless.
  • Unpredictability and volatility are part of the nature of the market. Futures are very vulnerable to price fluctuations and making a bad investment can cost a lot

3. Purchase shares in cocoa companies

One rather common way of investing in a commodity is through stocks. Due to cocoas market popularity there are a variety of companies for you to choose from, and if you are interested in investing in cocoa there are a number of advisors and brokers to guide you through the process.

While they aren’t as risky as futures, investing in stocks still requires some market knowledge, but by buying stocks at their current price you are less vulnerable to market fluctuations. However, if you are looking for a safer investment ETFs may be a better choice.

  • As a result of its demand and the areas it is sourced, cocoa is a politicised commodity that can be used a bargaining chip during periods of political friction or negotiation. As a result of this cocoa prices can periodically fluctuate violently, making a big impact on your investment.

Compare these providers for access to cocoa ETFs and more

How much is cocoa worth now?

Is cocoa a safe investment?

Cocoa’s global popularity makes it a massive commodity and a popular investment on the market. Even so, there are risks involved in any investment, cocoa included:

  • Environmental conditions: Cocoa grows under specific weather conditions, if these conditions shift suddenly they can drastically effect crop yield and subsequently commodity supply. Additionally, environmental changes influence pollination and plant growth, once again impacting general supply.
  • Political friction: As mentioned above, cocoa is sometimes used as a political bargaining chip to influence international decisions and conflicts. Many of the nations which serve as major cocoa suppliers have only recently found their place on the global market, and rightly want to make the most of this highly desired commodity.
  • Labour: For a long time cocoa harvesting has been reliant on cheap or child labour. Recently there has been a massive shift towards fairer working conditions and salaries which have increased production costs, meaning that cocoa prices have been at their highest since first transitioning from being a luxury to an everyday commodity. Regardless of prices however, the shift towards better welfare conditions is a welcome change.

    Finance English practice: Unit 34 — Futures

    • Complete the sentences below. Use the key words if necessary.
      • Commodity futures

      are agreements to sell an asset at a fixed price on a fixed date in the future. are traded on a wide range of agricultural products (including wheat, maize, soybeans, pork, beef, sugar, tea, coffee, cocoa and orange juice), industrial metals (aluminium, copper, lead, nickel and zinc), precious metals (gold, silver, platinum and palladium) and oil. These products are known as .

      Futures were invented to enable regular buyers and sellers of commodities to protect themselves against losses or to against future changes in the price. If they both agree to hedge, the seller (e.g. an orange grower) is protected from a fall in price and the buyer (e.g. an orange juiced manufacturer) is protected from a rise in price.

      Futures are contracts — contracts which are for fixed quantities (such as one ton of copper or 100 ounces of gold) and fixed time periods (normally three, six or nine months) — that are traded on a special exchange.

      Forwards are individual, contracts between two parties, traded — directly, between, two companies of financial institutions, rather than through an exchange. The futures price for a commodity is normally higher than its — the price that would be paid for immediate delivery. Sometimes, however, short-term demand pushes the spot price above the future price. This is called .

      Futures and forwards are also used by speculators — people who hope to profit from price changes.

      More recently, have been developed. These are standardized contracts, traded on exchanges, to buy and sell financial assets. Financial assets such as currencies, interest rates, stocks and stock market indexes — continuously vary — so financial futures are used to fix a value for a specified future date (e.g. sell euros for dollars at a rate of €1 for $1.20 on June 30).

      and are contracts that specify the price at which a certain currency will be bought or sold on a specified date.

      are agreements between banks and investors and companies to issue fixed income securities (bonds, certificates of deposit, money market deposits, etc.) at a future date.

      fix a price for a stock and fix a value for an index (e.g. the Dow Jones or the FTSE) on a certain date. They are alternatives to buying the stocks or shares themselves.

      Like futures for physical commodities, financial futures can be used both to hedge and to speculate. Obviously the buyer and seller of a financial future have different opinions about what will happen to exchange rates, interest rates and stock prices. They are both taking an unlimited risk, because there could be huge changes in rates and prices during the period of the contract. Futures trading is a , because the amount of money gained by one party will be the same as the sum lost by the other.

  • British English or American English?
    • aliminium
      • British English
      • American English

    • aluminum
      • American English
      • British English

  • Match the definitions with the words below.
    • 1. the price for the immediate purchase and delivery of a commodity — . . .

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