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The Impressive Rise of Robusta: S&D Considerations

#Robusta experienced a dramatic rally from 1750 in N up to nearly 2500 in April, a rally of 40%. #Arabica experienced a similar though slightly smaller rally from peak to trough during that period, but by contrast Robusta didn't experience nearly the same decline that Arabica did prior to the rally nor nearly the same drop since. In short, Robusta has been a steady, rallying tortoise compared to the erratic and volatile hare of Arabica.


In this article we outline the key dynamics of the Robusta market, highlight some of the factors that have contributed to its impressive rally and outline some of what we think are the key factors going forward in the price of Robusta.



Robusta as a replacement product for Arabica

Robusta is really the little brother of Arabica and we can only understand Robusta by understanding Arabica. This is because Arabica comprises 60% of the total coffee market volume and 80% of the market value.


However, the market weakness of Robusta, is also its strength as a commodity. As the low-budget alternative to Arabica, Robusta comes into its own when Arabica is at its most expensive. Its at these times where Robusta is in high demand.


This is exactly the situation that the coffee market finds itself in. With Arabica prices shooting above 170c in July of 2021 and staying there for most of the next 2 years, Roasters are becoming more and more interested in finding cheaper alternatives.


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Analyzing Robusta

When analyzing the robusta market there are some key problems that we don't face in Arabica.


First of all is the influence of Arabica itself. The price of Robusta cannot be viewed in isolation, because it is a replacement product for Arabica. There is some small demand for Robusta independent of Arabica 1, but for the most part Robusta is used a blending agent to reduce the cost of Arabica coffees. This is important because it means that Robusta will rally "sympathetically" with Arabica, regardless of its own fundamentals. Or to put it another way, the demand for Robusta is highly volatile based on Arabica.


The ease with which roasters can switch to robusta is not always the same. Many company's have 100% arabica brands, and others have distinct flavor profiles that cannot tolerate large Robusta portions. However, price has a way of forcing roasters to adapt, and so the longer prices remain high, the more time and incentive roasters have to figure out ways to switch into the cheaper variety. This seems to be what has been happening over the last couple of years and is a major factor in the most recent rally in Robusta.


While w have robusta in surplus this year, and for the last several years in fact others have Robusta in deficit. The reason for the discrepancy in views on Robusta fundamentals is because, as one friend put it "Robusta consumption is a black hole." What he meant by that is that the visibility of robusta demand is not always very good.


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Brazil and its effect on Robusta consumption

As is often the case, this comes in part from Brazil. Brazil is not only the largest producer of coffee, and the second largest producer of Robusta, but they are also the largest consumer of coffee. However, this demand for coffee is highly elastic between Arabica and Robusta.


Coffee in Brazil is often given away for free or low costs in hotel lobbies, gas stations and restaurants and consists of undergrade (non-exportable) Arabica beans and/or Robusta. There is kind of a "trickle down" effect in coffee consumption in Brazil, when Arabica is expensive the country exports more Arabica beans and consumes less marginal Arabica beans (old beans or those on the borderline of being exportable) and more Robusta beans.


Many people have Brazil domestic coffee consumption at around 20-24 million bags with a range of 40/60 to 60/40. If we look at the possible range for a 20 million bag consumption: 40% 8 million and 60% is 12 million, so thats a range of 4 million bags! If you consider total robusta production to be about 80 million bags then you can see that this swing alone can have a dramatic effect on total availability of Robusta and the surplus or deficit.



Notorious: Robusta Calendar Spreads


There is another factor that has been notorious in the Robusta market for years and contributes to its price action as well, and that is the calendar spreads. The calendar spreads in robusta are "notorious" because they are easy to manipulate, or as people in the industry say, "play games" with.


This is something we have covered in other articles, but the gist of it is this: there is a lot less inventory in Robusta, the contracts are cheaper, and the position limits are much higher, this makes it easier for large traders to "squeeze" the market. In other words, buy up a bunch of certified inventory and futures lots and then demand that the counter parties pay high prices to get out of their shorts.


In February of 2023, Robusta Certified inventory dropped below 60k MT: or the lowest level in the past 5 years, these low inventory levels opened the market up to squeezes. Even though inventory levels have recovered somewhat since that (now ~80k MT vs 5 year avg around 130k), much of the stock is likely in "strong hands" and the front month calendar spreads has been very strong and inverted.


this inversion in the market discourages short positions and encourages long positions and indeed the spec is longer now at the top of their range.


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The Arb

Going forward the benefit of Robusta as the cheaper alternative to Arabica is also its downfall. As the Robusta market rallies and the Arabica market falls, it makes Robusta a less attractive alternative.


The traditional way to look at the spread between arabica and robusta is "the arb", or the difference between arabica and Robusta in c/lb. When coffee prices are cheaper, it used to be that an arbitrage of around 40-60 c was about the norm. Currently the Arb is around 76c. This does imply that there is still value in buying Robusta, but if Arabica falls another 10-15c then Robusta will have a hard time justifying current prices.



Robusta Production Expectations

The Brazil harvest is already underway and by some accounts, it is going to produce a record robusta (conillon) crop of 24 million bags.


Indonesia, another large producer of Robusta has had more trouble this year with drought and other issues causing the crop to decline by as much as 500k-1 million bags. However, by our estimations this is more than offset by Brazil production. Vietnam, the powehouse of Robusta is also expected to produce a relatively strong Robusta crop this year starting in October. Uganda's crop will be at least as big as last years, even with the problems there (and next year could see a substantial increase of 1-2 million bags).


Conclusion


With all of this production en route, the Arabica price will need to stay high to prop up Robusta. If the Arabica price continues to rally as some think it will, then the demand for Robusta could stay strong, however, if the Brazil harvest this year is the beginning of the end of the great Coffee bull market of 21/22 then Robusta will have a harder time justifying higher prices. Moreover, the heavy spec position will ultimately be a liability. With spec longs, the law of gravity does eventually apply, what comes up, must come down. That cannot be disputed, but as always in the coffee market, the more difficult question is when. Are we in the middle of the trend, or the end?


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