Commodity ETF Alert March 2012 Issue

| March 13, 2012 | 0 Comments

A COMMODITY TRADE STRAIGHT ‘OUT OF AFRICA’

Cote d’Ivoire…

Maybe you’ve heard of it.

Commonly referred to as ‘The Ivory Coast’ here in the US, Cote d’Ivoire is a small nation on the West African coast.

Known for its lush tropical forests and humid weather, the country has ideal growing conditions for an essential soft commodity… cocoa.

As I’m sure you’re aware, cocoa is an ingredient in many products.  But it’s most commonly known for its use in chocolate.

And as abundant as chocolate is in the world, you would think cocoa is easy to come by as well.

But the truth is, cocoa is anything but abundant…

As a matter of fact, in three out of the last five years, global cocoa supplies have been in deficit.

In other words, there’s been more demand for the soft commodity than there’s been supply on the global market.

Why is it so hard to keep the global cocoa market well supplied?

That’s where Cote d’Ivoire and the country’s West African neighbors come in…

To say Cote D’Ivoire plays a mere role in global cocoa production is a huge understatement.  The country produced an estimated 1.5 million tonnes of cocoa in 2010/2011… far more than any other nation in the world.

And that lofty status is nothing new…

Cote d’Ivoire has long held the title as the number one cocoa producer in the world. They’re such a large supplier that they often double the output of their closest competitor.

Speaking of which, the country lying just to the east- Ghana- garnered an estimated 1 million tonnes of cocoa last year.  That makes them the world’s second largest producer.

Rounding out the top four, Nigeria and Cameroon, are the world’s third and fourth largest cocoa producers.  Both these countries are just to the east of Ghana.

As you can see, a majority of world production is held in one small corner of the world. In fact, nearly 75% of the world’s cocoa comes out of these four West African nations.

Clearly, there’s an incredibly high dependence on cocoa production from this region.

There are other regions around the globe that grow cocoa, such as Asia and South America.  But nowhere in the world is production more important than in West Africa.

Due to the region’s undeniable importance, investors watch conditions in these countries very closely.  And they most certainly sit up and take notice when unfavorable circumstances threaten to hamper production.

And that’s precisely what’s happening now…

Nasty weather has cocoa market bulls sharpening their horns.  Unusually strong Harmattan winds have growers worried the 2011/2012 cocoa harvest will come up short.

What are Harmattan winds?

They’re annual winter winds that blow down from the Sahara and across coastal West African countries.  But this year the winds are exceptionally strong and they’re bringing heavy doses of rain along for the ride.

According to the International Cocoa Organization (ICCO), the combination of heavy wind and rain will send this year’s cocoa output falling by 160,000 tonnes in Cote d’Ivoire alone.

And they’re not the only ones…

Nigerian cocoa output is expected to drop 10% from last year’s 240,000 tonne crop due to “excessive rain and humidity”.

Meanwhile, Cameroon is having its own problems.  According to the ICCO, a caterpillar invasion is “ravaging” the country’s crops.  That has analysts estimating Cameroon’s output will drop as much as 20% from last year’s 230,000 tonne crop.

These production drops are expected to take a toll on global cocoa supplies…

Due to weakening West African output, the ICCO estimates global cocoa production will return to a supply deficit situation.  The last time a supply deficit ruled the cocoa market was in 2009/2010.  Prices went nuts as investors positioned their portfolios to take advantage of dwindling supplies.

Could we be in for another run higher for cocoa?

After falling dramatically last year, cocoa prices are currently trading at $2,376 per ton- a level not seen since late 2008.  That means we’re getting the perfect opportunity to buy low and sell high… the best way to make money in commodity ETFs.

Let’s use today’s low prices and the bullish ICCO news as an opportunity to get long cocoa!

ABOUT COCOA

We’re getting long cocoa via the iPath Dow Jones-UBS Cocoa (NIB) ETN.  NIB tracks the Dow Jones-UBS Cocoa Total Return Sub-Index.  The index reflects the returns potentially available through an unleveraged investment in futures contracts on physical cocoa.

TECHNICALLY SPEAKING

nib31312
As you can see, NIB has dropped dramatically over the past year.  That means now’s the perfect time to get long this cocoa tracking ETN.

Now this is important…

Be careful entering NIB, as it’s thinly traded.  Make sure you use limit orders when entering your positions.

 WHAT TO DO NOW:

iPath Dow Jones-UBS Cocoa (NIB) is trading at $32.37.
Buy NIB up to $33.50 per share.
Our profit target is $40.00 or more.
Don’t forget your position sizing.

Commodity Review
 

COMMODITY TICKER CURRENT VALUE LAST MONTH CHANGE
Energy JJE $18.80 $18.80    -0.6%
Grains JJG $45.06 $45.06   +3.5%
Industrial Metals JJM $38.65 $38.65   -1.0%
Precious Metals JJP $95.19 $95.19   -1.4%
Softs JJS $68.42 $68.42   -4.6%
Livestock COW $30.21 $30.21   -1.3%
All Commodities DJP $43.36 $43.36   -0.2%

ENERGY COMMODITIES

Oil prices remain elevated as Spring nears…

As of today, crude’s trading for a hefty $106.50 a barrel.  That’s down a bit from the recent highs of $110, but most certainly up from the early February 2012 lows of $96.

Whether or not we stay at these lofty levels depends largely on the standoff with Iran.  If Iran’s resolve weakens in coming weeks, oil prices should ease as the fear premium comes out of the market.

But if the standoff heats up, crude could very well test last year’s high of $114 a barrel.

Remember, we sold half our USL position in our last update.  Doing so gave us a sweet short-term gain of 29%.  Keep holding your remaining USL shares for further upside.

Natural gas prices are currently retesting the January 2012 lows of $2.23 mmbtu.  If you haven’t already, buy UNL up to $20.

GRAIN COMMODITIES

The USDA came out with their monthly World Agricultural Supply and Demand Estimates (WASDE) report last week.  In the report, they surprised the market by slashing global supply estimates for soybeans, corn, and wheat.

Of course, such an action increases the likelihood of higher prices across the grains complex.  Soybeans have already made a solid move higher over the past few weeks. So it’s best not to chase that market.

But corn and wheat are a different story.  We could see these grains rise as Spring nears.

INDUSTRIAL METALS

Industrial metals took a hit last week when China revised their 2012 GDP growth target down to 7.5%.  China’s leaders made the move in order to keep a lid on inflation.

You see, for years, the quickly developing country’s economy has grown at a rate well over 8%.  In some instances, the country turned in yearly GDP growth north of 12%.

But these record growth rates sent inflation soaring…

In fact, just last summer China’s inflation rate roared up to 6.5%- a three-year high. Such lofty inflation means China’s poor literally spend every dime they make on basic necessities.  And that creates a breeding ground for social unrest.

It’s now becoming clear China’s willing to sacrifice some growth in exchange for lower inflation.  Keeping the poor from rioting in the streets has obviously become a high priority.

Palladium prices reacted to the news by falling rather dramatically on March 6th.  But since then, the metal has rebounded nicely.  We’re currently sitting on a 6.5% gain in PALL.

While the China news is important, it’s not a game changer for industrial metals.  After all, a 7.5% growth rate is still quite amazing.  And that means China will continue consuming these commodities at a rapid clip.

Keeping holding PALL for further gains…

PRECIOUS METALS

Thanks to Ben Bernanke, gold and silver prices took a tumble…

In a February 29th speech to the House Financial Services Committee, Bernanke hinted the Fed wouldn’t institute another round of quantitative easing (QE).  Now that unemployment rates are falling, Bernanke says the need for additional easing is diminished.

Not surprisingly, investors reacted with knee-jerk selling.  They’ve speculated for months the Fed would institute QE3 in 2012.  But now that they’re not, investors chose to take some gold and silver profits off the table.

So now that QE3 looks like a no-go, is the trade in gold and silver done for good?

Not so fast…

Monetary easing has no doubt helped gold and silver rise over the past two years.  But it’s not the only factor pushing the metals higher.  Surging investment demand from China and India has also kept a bid under both metals.

And remember, just because QE3 is off the table, it doesn’t mean the US Dollar can’t keep falling.  And remember, a falling dollar is one of the prime ingredients for higher precious metals prices.

As far as our positions in PHYS and SLV go, I’m keeping them at a HOLD. 

Both ETFs have fallen back below our buy-up-to-price in recent trading.  But we’ve had plenty of time to pick these metals up at cheap prices.  Let’s keep both SLV and PHYS at a hold from here on out.

Remember, we took profits on the second half of our IAU gold position in the last update.  Doing so got us a hefty 30% gain.

SOFTS

After an initial surge higher, sugar is now pulling back.  In fact, prices have fallen all the way back to the mid-term technical support level at $0.2350 a pound.

This price area is important…

We need to see sugar rally in coming days so it can stay above this technical level.  If it doesn’t, sugar prices could drop to the next price support level at $0.22.

While that may not sound like much, such a drop would translate into an outsized drop in SGG… and that’s something we want to avoid.

So here’s what we’ll do…

First of all, I’m keeping SGG at a hold.

However, if SGG closes below $83.50 in the next two weeks, we’re exiting this trade. Doing so will keep our downside risk in check.  As you know, our entry price in SGG is $84.36, so if we have to exit SGG at $83.50- it would result in a very small loss.

I’m surprised sugar didn’t hold onto its recent gains.  The fundamentals for sugar still support higher prices.

Let’s not fight the market folks.  If SGG continues down, we won’t be on board.

LIVESTOCK

Every USDA report I read suggests higher cattle prices in 2012.  And guess what, prices are in fact rising.  Live cattle have gone from $1.18 a pound in December 2011 to as high as $1.31 a pound in just the past few days.  That’s an 11% rise in a matter of months.

But COW is still trading near our entry point of $29.66…

What’s going on?

Why are cattle prices going up (like we thought they would) and COW is going nowhere?

Unfortunately, I think the ETF’s exposure to lean hog prices is keeping it under wraps. According to iPath, COW has a 36.5% weighting in lean hogs.  And since September 2011, lean hog prices have gone nowhere.

Folk’s let’s dump COW…

Getting out at current prices leaves us breakeven on this trade.  When a better ETF comes along to play cattle prices, we’ll jump on it.  But for now, let’s put our money in better opportunities.

Portfolio Changes

  • This month we’re adding cocoa (NIB) to the portfolio.  See above for all the details.

Category: Commodity Trading

About the Author ()

Justin Bennett is the editor of Commodity ETF Alert, an investment advisory focused on profiting from the ebb and flow of important commodities via ETFs. The commodity veteran and options specialist is also a regular contributor to the Dynamic Wealth Report. Every week, Justin shares his thoughts with our readers on a variety of commodity-related topics. Justin is also a frequent contributor to Commodity Trading Research’s free daily e-letter. And he’s the editor of another highly successful and popular investment advisory, the Options Profit Pipeline.