Author: jonkingsman

Sylvain Bettinelli is Chief Risk Officer for Nibulon, the largest grain exporter from Ukraine. Founded in 1991, Nibulon owns 388 silos and over two million tonnes of grain storage, along with a network of 25 transshipment terminals and an export terminal in Mykolaiv. The company cultivates 82,000 ha of agricultural land in Ukraine.

Before joining Nibulon, Sylvain spent six years with Cargill and five years with Bunge.

Good morning, Sylvain. Could you please tell me a little about Nibulon’s business model?

We are mono-origin Ukraine, and export around 6 million tonnes of grain per year all over the world. We grow around 10 percent of that 6 million tonnes. Of the exports, 40 percent is corn; 40 percent is wheat; and the rest is barley, soybeans and sunflower seeds. We sell about 40 percent CIF and 60 percent FOB. We have more than 7,000 employees.

We are still growing, with a target to export 8 million tonnes within a few years. We only originate out of Ukraine, and we will continue to expand in Ukraine, so we are different from the big international grain traders who are multi-origin.

We have sizeable fixed costs in terms of infrastructure: our own fleet of trucks, of barges and tugboats, as well as storage and export loading terminals. To maximise our infrastructure capacity, we need to export between 500 and 600,000 tonnes each month.

We look to use our infrastructure to earn a margin at every stage through the supply chain. It is a similar model to, say, Cargill in the US. They earn money from the farmer to the port, and not only from FOBS to CIF. It is the same for us.

We also buy when farmers want to sell. We always give them a price. We never tell them that we don’t want to buy. We have to maintain their loyalty if we want them to sell to us the following year.

As you say, it is an origination model similar to a Bunge or Cargill.

Nibulon wanted to implement a state-of-the-art western style of risk management. And that was why I was hired. In terms of risk management, I apply everything here that I learned at Bunge and Cargill.

How do you manage your price risks?

We are first and foremost physical traders, so we always favour physical forward deals when we look at hedging our price risks.

However, we cannot always find physical buyers when we want them, so we supplement this physical trading activity with hedges in the futures and options markets on the CBOT, as well as on the MATIF.

We can only hedge the flat price risk with derivatives. We are left with the basis risk – the difference between the price in Ukraine and the futures prices. We can only ‘hedge’ this basis risk through our physical sales.

Corn is easy to hedge as the correlation between Ukrainian and US corn is very good. The correlation on wheat is not as good. We still use the futures, but we have to be more active.

And then we have products like barley where there is no futures market, and hence no means to hedge. You either have to find a buyer, or you have to take a position and accept the outright price risk.

China and Saudi Arabia are the main buyers of Ukrainian barley. Saudi Arabia buys through tenders. We have to take a risk with these tenders. Either we buy the barley first and go long into the tender, or we have to short the tender and try to cover the physicals afterwards.

Do you use the Platts Black Sea benchmark?

It would be very useful for us in terms of managing our price risk, but as a risk manager I can’t use this new Black sea wheat contract until it is more liquid, and I fear it is the same for other big players. It is a question of the chicken or the egg! Once it is liquid, we will be one of the main users of it!

What risks keep you awake at night?

The only risks that keep me awake at night are the risks that can’t be managed. The biggest is political risk. In 1992, the Ukrainian government imposed an export ban on wheat. It took most exporters several years to work through the consequences of that ban.

The Ukrainian government is currently looking at changing the rules for inland water transportation. If the rules change, it can alter the rationale of former investments. And that is very difficult to manage.

Our other big risk is that we are mono origin; if we were to have a bad crop in Ukraine it would affect us more than it would affect a multi-origin, multinational like Bunge or Cargill, or pure traders without assets. We couldn’t supply our customers with South American or US corn rather than Ukrainian corn. In addition, we need volumes through our supply chain in order to cover those fixed costs and make profits.

The other risks are manageable. We have a refined way of looking at risks on a timely basis, both volumetric and VAR, stress tests etc etc.

Russia has imposed and implemented export quotas on wheat. Is there any possibility that Ukraine would do the same?

Theoretically yes, because it happened less than 10 years ago. But in practice no; we don’t think it will happen. Ukraine is dependent on agricultural exports for both tax revenues and foreign exchange. Besides, the harvest is expected to be very good and we see only a limited chance that dry weather will impact negatively production, so there is no reason to impose export quotas.

It has rained recently in Ukraine; is there still a risk of drought?

It has been dry, but it was never a drought. In the past when we have had a similar dryness, we have lost between 8 and 12 percent of our production. Knowing that, the risk to the coming crop is very limited.

It is true that there has been a lack of rain, but what is crucial is what happens in the next two to three weeks. It has been raining for the past few days, and more rain is expected.

Do you see Ukraine expanding production further?

Improved agricultural yields have been driving our production increases. Ukraine has the potential to increase yields even further before they get anywhere close to yields in Europe or the US. The increase in yields has come through better agricultural practices and increased inputs.

Irrigation has played a major role, but there is a problem of land ownership in Ukraine. When the big state co-operative farms were broken up the land was sold or given to the cooperative members. They only got a small acreage each. Most of the farmers now don’t own the land they farm but lease it on short term leases from the owners. For irrigation you need at least a three-year lease to get a return on your investment. If you don’t own the land you don’t invest in it.

There is legislation moving through Parliament that will allow these small farmers to sell their land to Ukrainian owners first to facilitate the consolidation of these small holding, but land reform is always a sensitive issue in every country. This process could take five to ten years or so to implement.

What is the biggest challenge that Ukraine faces as far as grain exports are concerned?

South American countries have seen their currencies devalue significantly over the past few years, and their grain exports have become super-competitive. That is a challenge for other origins, but we are well placed geographically in the Black Sea to supply the main wheat, corn and barley importers, whether Egypt, Turkey or Saudi Arabia or even Asia.

And what is the biggest challenge that Nibulon faces?

Our challenges are different every year! It is a very competitive business; you can never sleep on your situation whether in terms of origination or exports. Competition is intense every year and we have to fight all the time.

Thank you, Sylvain for your time and input!

© Commodity Conversations ® 2020

Sylvain will be speaking at Commodities Week Online, a free-to-attend web seminar that will be held from 26^th to 28^th May.

J-F Lambert spent most of his career in international banking and trade finance, originally with Crédit Commercial de France, or CCF, and then with HSBC. He is now a consultant on trade and commodity finance and strategy for banks, companies and funds. He also teaches commodity market dynamics at Sciences Po in Paris and regularly lectures at the London Business School.

What has been the impact of the virus, lockdown and oil price war on financing for commodity traders?

As for any corporate or individuals, the challenges caused by the virus and the measures taken to ringfence its dire consequences are massive. With about half the world population in lockdown and most developed economy in a standstill, the shock is enormous.

What makes it even more challenging is that both supply and demand are affected, and that like in a low speed tsunami, the wave eventually reaches every shore.

In such a context, commodity trading faces three kinds of difficulty: a choc of demand, disruption on supply and, if the crisis lingers, increased counterparty risk. Whilst the volatility is high, these uncertainties prevent trading houses from taking full advantage of it.

In rough seas one needs a sturdy vessel. In terms of commodity trading, this means that only large trading houses can cope with the underlying risks: trading risks, liquidity risks in the face of margin calls or payment delays, and counterparty risks. Smaller players should err on caution: if they find themselves on the wrong side of the market, they may lack the financial muscle to absorb the shocks.

Are banks tightening their lending to traders?

Banks are tightening their exposures on every front. With regard to commodity trading, their reaction is to fly for quality, and be quite restrictive on everything else. This means that the ABCD+s will not be significantly challenged as they are able to communicate on their strategy, positions, liquidity and results with their mains banks almost daily if necessary.

Smaller players, unlike larger traders, often have slim liquidity and are often much less equipped to monitor their books and communicate effectively with the lenders. When this is the case, and in the current context, their banks will not be accommodative. In case of doubts or difficulty in assessing the market positions of their smaller customers, banks will not hesitate to reduce their lines.

Why would banks reduce lending to traders now if the traders are not directly exposed to lower prices? Don’t lower prices make things easier for traders as they need less capital?

Unlike producers and end users, traders are not in principle exposed to the flat price. So, in theory you are right. However, in real life things are somehow different. To ring fence the flat price risks, traders rely on hedges, whether on a book or deal basis. In the these volatile markets your hedging strategy is only as good as your ability to pay for margin calls. If you are not able to meet your margin calls, then your hedge vanishes and you are left exposed, potentially facing huge losses. Besides, if the logistical disruption on the supply side and potential counterparty defaults are significant, they could trigger losses both on the hedge and the trade.

For all these reasons banks will stick to robust traders (the large trading houses) and will certainly revisit their exposure to whichever company they might deem to be overstretched.

Have the risks of counterparty defaults increased and, if so, how?

The risk of counterpart default is rising as the crisis lingers. The world economy is in standstill. Oil demand has fallen 30 percent when it has been rising consistently for the past 30 years or so. China’s ability to rebound is a moot point. Europe and America face the biggest economic crisis since WW2. In this context, defaults are bound to happen. Hence the nervousness of banks. Hence the reluctance of insurers to underwrite new businesses.

Are some commodities more impacted than others?

All commodities are affected, whether on the supply side, demand side or both!

Banks have long recognized that commodity trading is a critical activity. Rather than taking a global decision to pull out of one sector or another, banks are taking a close look at their customers and will direct their support to the fittest and most resilient ones. With others the time is not ripe to stage pull-outs, but to endeavour to ring fence their exposure by capping, reducing their limits or strengthening security packages. Strategic decisions will come later.

Finally, is finance the Achilles Heel of the commodity trade – the most vulnerable point of the system?

So far money has not been the issue.  Huge and sudden imbalances between demand and supply, potential logistical disruptions and rising counterparty risks are at the root of the current difficulties for commodity players.

Having said that, the commodity trade relies on other people’s money, in other words: bank money. Unless your bankers are comfortable, you can’t trade. So, my humble advice to commodity traders is to be as transparent and forthcoming as possible with your financiers, whether in calm as well as (and even more so) in rough seas.

As a former banker I cannot emphasize this enough: doubt, misunderstanding and suspicion about a borrower’s business will inevitably lead to the severance of the relation. All the more when we are witnessing the biggest recession since 1929.

© Commodity Conversations® 2020

I interviewed Teddy Esteve, the CEO of ECOM Coffee, while he was on Coronavirus lockdown at his home in Mexico. I asked him what was his relationship to the founders of ECOM.

ECOM is a seventh-generation business that started in cotton in Barcelona, Spain, and I’m part of that seventh generation. There are still quite a few of us from that seventh generation involved in the business, from three branches of the family.

I see from your website that ECOM is the number one coffee miller in the world and the number two coffee trader in the world.

Our company started in coffee in 1959 in Brazil. When we started in Mexico, we had a different shareholder structure than the one in Brazil. Today we are one group under a united management with a fantastic understanding of each other, so we work very well together.

Having said that, our Brazilian operations are largely autonomous.  Our people there are excellent, and they know their job better than anyone. They have been in this business for ever, and they just get on with it.

How did the business develop in Central America?

The operation in Mexico had started a few years before I arrived.

ED&F Man had come to us and said, “Hey, you guys know Mexico and we know coffee, so let’s start a joint venture coffee operation in Mexico.” We set up Omnicafé, a 50-50 joint venture; it lost a bundle in the first year.

At the end of the first year, we went to EDF Man and said, “Listen, you guys know coffee, you keep the company.” But they said, “No, no, you know Mexico, you keep it.” In the end, we lost the fight and we kept it! That was 1981.

From then on, we built the business from the ground up. We grew by knowing the business inside out.  It’s a very big advantage when you don’t inherit a business.

Did the acquisition of Cargill Coffee in 2000 boost your business? 

Anyone that buys something from Cargill, well it’s a real “wow!”

We bought Cargill’s coffee operation after Neumann, Volcafé and probably some others turned it down. Cargill was keen to sell it, so we bought it on good terms. The purchase was an important one for us. They had a lot of inventory and Cargill is without doubt the best school there is for commodity trading. We still have excellent ex-Cargill colleagues working with us.

In 2013, you took over Armajaro’s coffee operations. Was that also a boost to your business?

We bought Armajaro for their cocoa business, and it has been the best thing that could ever have happened to our cocoa business. It was a very good deal.

For coffee, it was good in the sense that the purchase included Dorman’s in East Africa. Dorman has a very good operation in Kenya, Tanzania and Rwanda. Armajaro also had some good contracts on their books with roasters.

What is your trading style?

We are very different to our competitors. We are the least trader of the traders and we are the most merchants of the merchants. If you have a scale with a wine merchant at one end and a soybean trader at the other end, I see myself more as a wine merchant than as a soybean trader.

People ask me how they can make more money. By buying cheaper coffee? No, by selling more expensive coffee, not by buying cheaper!

Everyone knows the price of coffee today; they all have a cell phone and access to the internet. We strive to improve the price to the farmer and ourselves by differentiating the product; the more I pay the farmer, the better the supply chain. Cheap coffee does not fit our business model.

Why is the price of coffee so low – is it because Brazil and Vietnam are so efficient?

Brazil sets the price of robusta. Today if you take delivery of the futures market in London you will get only Conilon – Brazilian robusta. Not everyone wants Conilon, so if you have Conilon, the easiest place to go with it is the futures market. So, although Vietnam produces more robusta than Brazil, it is Brazil that sets the futures price because the futures represent Brazils.

Brazil also sets the price of arabica.

Brazil can see yields in excess of 60 bags per hectare versus 5 bags per hectare in Africa. So, Brazil obviously produces a lot at a very cheap price. If a country wants to compete with Brazil, they have to compete on something else other than price. They have to compete on quality. In the long run, nobody can compete with Brazil just on price.

Is the world of coffee pricing broken?

There are currently too many producers who can’t make a living out of coffee. So, yes, in that sense coffee pricing is broken, and it has been broken for a while.

Having said that, there are a lot of companies who pay farmers correctly, and they are not small companies. These are people who know that you cannot live by taking advantage of others.

Two last questions: What is your favourite coffee? And what’s your favourite brewing method?

My favourite coffee is from Kenya: Dorman’s Gourmet Special Reserve. Once you drink this, you can’t drink anything else. It’s like Petrus. If I started to drink Petrus I wouldn’t be able to drink anything else. That’s why I haven’t start drinking Petrus.

I use a French press.

Thank you, Teddy, for your time and input.

© Commodity Conversations ® 2020

This is a short extract of an interview that will be published in my upcoming book Merchants & Roasters – Conversations over Coffee

 

 

I recently chatted with Dave Behrends, the Founder and President of Farmer Connect. I asked him how it all started.

In 2017 I attended a coffee conference in Medellin Colombia. Professor Jeffrey Sachs, an economist from Columbia University, got up on stage and told the audience,

“Every day I go to a famous coffee shop and pay $1.95 for my medium sized black coffee, but how much of that $1.95 actually goes to farmers? The answer is five cents.”

The conference descended into chaos, with everyone arguing as to whether the coffee chain makes too much money, and why the farmers don’t make enough. But what was lost – and it was this that personally inspired me – was the second statement that Jeffrey Sachs made. He said,

“If as a consumer I was given the option to pay $2 for my coffee instead of $1.95, but I was sure that that the extra five cents would go back to the farmer, or back to the farmers’ community to either double their income or really significantly improve his livelihood, I would gladly pay that extra five cents.”

That was a light bulb moment for me. I realised that he was right. Consumers would be willing to pay a little bit more as long as they could trace that money flow back to farmers and their communities.

And has that vision now come to fruition?

Yes, it has. Farmer Connect currently offers three main components, or solutions: the first is Farmer ID, the second is an Enterprise Blockchain Solution; and the third is Thank My Farmer.

Farmer ID gives each farmer a self-sovereign digital identity that stores two types of credentials: one transactional and the other behavioural (in terms of sustainability). Having the transaction and the behaviour on the platform creates a trust score and a credit score that micro-finance institutions can use to determine the farmer’s credit worthiness.

In addition to the transactional and behavioural credentials, Farmer ID also has a link to digital wallets, bank accounts or other means of payment.

The Enterprise Blockchain Solution is the second component of the scheme. It records two types of data: prices paid at every stage along the supply chain, as well as what we call ‘the journey of the product’.

Thank My Farmer is the third component. It will allow a consumer to scan a QR code on his cup, or bag, of coffee and immediately see the journey that product has taken.

It will allow consumers to contribute to social projects in the farmer’s geography or to make a donation directly to the farmer who grew the coffee.

Do you think that consumers will use the Thank My Farmer app to tip a farmer in the same way that they would tip a barista?

I think there are consumers who will engage. The millennial and post-millennial generations may be a little bit more inclined to do so compared to older generations. Also, some countries have more of a tipping culture than others, so it could vary by geographies.

But we don’t want to limit it just to that. We’re speaking with brands who are saying that they want to give money to sustainability projects, and they want to allow their consumers to choose which project to support.

How will Farmer Connect increase farmer revenues?

Farmer Connect will enable consumers to engage in a new way with the supply chain and allow them to know that every cup they’re drinking is positively impacting the lives of the farmers who produce it. Once that happens, we believe that consumers will be willing to pay more for their coffee, and probably drink more.

This changes the game for everyone. Instead of fighting over whether the brand owner or the retailer make too much and the farmer make too little, we’re going to grow the whole pie. And as we grow that pie we will make sure that the farmers are getting a more than equitable share of it.

I believe that you are currently raising money.

Yes, we are going through a series A fundraising, looking to raise US $10 to 20 million, and we envision bringing in three to seven investors.

We’ve purposely gone out of our way to turn down Venture Capital and Private Equity money. Even if it means that we have a lower valuation we’ve put most of our focus on finding industry partners. We really believe that this should be done by the industry for the industry.

Dave, thank you for your time and explanations, and I wish you every success with the venture.

To see Dave’s latest blog on child labour click here.

© Commodity Conversations ® 2020

I met recently with Nicolas A. Tamari, the CEO of Sucafina. I asked him about the geographical spread of his business.

We are in the top five of global coffee traders. One out of every 20 cups of coffee drunk in the world comes from Sucafina. That is a big number, but we look more at profitability than at volume. We say that ‘volume is vanity, profit is sanity and cash flow is reality’. We look to be profitable, not to fight for market share.

We source about one third of our coffee from Africa, one third from the Americas, and one third from Asia. Historically we were more of a robusta based company, but in the last decade we’re now doing more arabica. The majority of our business is now arabica.

Our strategy in the next five years is to build in Asia in terms of both origination and destination. A couple of months back we acquired a specialty coffee merchant operating in Hong Kong, Australia and New Zealand. It used to be called MTC, which stood for Mountain Top Coffee, but has been rebranded as Sucafina Specialty.

Who owns Sucafina today?

The company today is owned by the family and by the management. We believe that commodity trading companies should be owned by the management. It’s a people business. We are about one thousand employees in total in the company.

We encourage key people to become shareholders. To become a shareholder, you have to have worked for the company for a minimum number of years, to share our values, and to contribute to the bottom line financially.

Why are coffee prices so low and do you see any relief for growers in the near future?

Prices are currently low because the Brazilian Real is low against the US dollar. Brazil is the largest producer and exporter of coffee, and the low Real gives producers there a reasonable return.

As you know in coffee, we have two exchanges: one in New York that trades arabica and one in London that trades robusta. They are two different qualities. To make an analogy, they are like red wine and white wine.

The contract specification for the New York contract is washed arabica. Brazil mainly produces natural Arabica, which means that the vast majority of Brazilian coffee cannot be tendered on the Exchange – even if it still trades on that Exchange.

It’s a little bit like the cotton anomaly of a decade or so ago. You remember how most of the cotton in the world cannot be tendered against the futures market. It has to be US origin.

We have a similar phenomenon in coffee now where most of the physical coffee trades against a market where it cannot be delivered. I believe that this technical situation in itself will lead to a rally in prices.

In addition, even with the Coronavirus I am confident that coffee consumption will keep growing in the decade to come.

So yes, I believe we will soon have a rally, and that the New York market will reflect the fundamental tightness in washed arabica coffee.

If the New York contract is washed arabica while Brazil produces only natural arabica, why doesn’t Brazil just wash the coffee and make it deliverable?

Less than 10 percent of Brazil’s arabica coffee can be washed in Brazil. That 10 percent can be delivered on the exchange. Traditionally – for the last hundred years or so – the Brazilians rarely washed their coffee. The majority do not currently have the infrastructure to wash it, and it would need substantial capex to build it.

Do the futures markets in London and New York work well?

Both are liquid. Both set prices correctly.

But as I mentioned, most of the coffee traded against the New York Exchange is not tenderable. This results in a de-correlation between physical and futures prices in terms of the basis, which we call the ‘differential’.

Historically differentials were not particularly volatile, except for Colombia in 2009 when we had a weather problem. Recently differentials have become more volatile leading to a total de-correlation between physical and futures.

Right now, we’re currently living with a scenario where washed arabica coffee is trading at the massive premium to the underlying futures. There is a shortage of washed arabica coffee, but an excess of natural arabica coffee.

So, what would stop someone taking delivery of New York and getting the washed coffee?

That’s what’s happening as we speak and that’s why I believe the market will rally.

Thank you, Nicolas, for your time and your insights.

© Commodity Conversations ®

This is a short extract of an interview that I plan to publish in full in my new book Merchants and Roasters – Conversations over Coffee – hopefully out at the end of this year.

While the rest of the world is stockpiling toilet paper, California is buying marijuana. Sales from licensed retailers have spiked in the last week as users worry about future shortages and a lockdown. 

Unfortunately the spike in marijuana demand is having no effect on the price of hemp; it has fallen by 90 percent or so in the last few months.

Although the same plant, hemp is different from cannabis in the amount of the psychoactive substance THC (tetrahydrocannabinol) that it contains. Hemp plants contain no more than 0.3 percent of THC, while marijuana typically contains 5 to 20 percent THC. This means that cannabis plants with 0.3 percent or less of THC are hemp, while those with more than 0.3 percent THC are marijuana.

I talked with Charlie Stephens, the only hemp trader I know. Having started his career with Gavillon, Charlie, together with his brother Watt and fellow partner Jack, now runs Halcyon Thruput, a hemp drying and processing operation in Hopkinsville, Kentucky, that was recently acquired by Generation Hemp.

The hemp harvest kicks off mid-October and goes through to early December. Charlie told me that once harvested, hemp has to be processed and dried within a couple of hours; if not it starts to combust. His facility works 24 hours a day during the two months of the harvest, with farmers allocated two hour slots in which to deliver the crop.

“The primary product that we are left with after drying,” he continued, “is the biomass from which the CBD oil is extracted. The co-product of that process is bast fibre, the stock and stem material that can be used for fibre for clothes.”

The number of US acres under hemp has increased 100 fold (to 146,000 according to the USDA) since the crop was first partially legalised in 2014. (It was finally fully legalised in the 2018 Farm Bill.) That acreage increase has been driven by two factors: first, the US farmer’s need to diversify away from traditional crops that weren’t paying the bills; second, the expectation of a sharp increase in hemp demand for the production of Cannabidiol (CBD) oil.

Although CBD oil made from hemp contains virtually no THC, it is still believed to have a number of health benefits such as anxiety and pain relief.

“All the soft drinks and food companies had been expecting FDA approval for their products,” Charlie told me, “but the FDA came out and said they weren’t going to do anything, that they were sceptical of the health benefits of CBD, and that they wanted to do their own testing. That really threw a wrench in the market.

“Prices were $60-70 per pound last year, and have now fallen to around $6 per pound. The expected demand spike for CBD oil has not happened, and farmers are left with no choice but to sell their hemp for fibre and seeds.

“I believe that CBD demand is still growing,” Charlie told me, “but there is a lot of noise in the market and we all struggle to keep track of it. The big health companies are doing some serious testing as to health benefits, so we could have some progress there.

“I really believe that hemp will eventually develop into a mainstream commodity. It is an easy crop for farmers to grow. It is pretty much organic. It requires less water than cotton. It acts a sponge in the soil, sucking up all the heavy metal content, and for the lack of a better term it cleans the soil, which means it is nice plant to add into your rotation.”

“So you are bullish for the future?” I asked him.

“On the demand side the clothing companies want to trial it, to blend it with cotton. The clothing brand Patagonia recently announced that they will be making hemp blue jeans.

Meanwhile, Hempcrete is really taking off and there is a lot of potential for it as a building material. The cement industry is the second biggest GHG emitter in the world, and hempcrete is an alternative.

“One problem is that there is little infrastructure in the middle of the supply chain, and no one wants to build capacity without greater certainty on both ends. Another problem is that hemp has to be cheaper to compete. Production will need to be mechanised, industrialised and done at scale.

“I have just got back from Colombia where the government is encouraging farmers to switch from coca to hemp. Because of its climate, Colombia can grow hemp year round, which means that the industrial infrastructure can be used year round. This obviously reduces costs enormously. So I am particularly bullish on production in Colombia.

“As for the US market, it is difficult to find liquidity. Panxchange are doing a good job both as a trading platform and as a PRA (Price Reporting Agency), but a lot of the time no one has any idea as to what the price should be. And when you do find transparency the bid / offer spreads are massive.

“I believe that there is a huge opportunity for some of the bigger trade houses to get involved, but so far they are hesitant. Maybe they need more transparency and liquidity to get involved. It is a chicken and egg problem. They are waiting until the market takes off, but it will be hard for it to take off without them.”

PS If you would like to talk to Charlie directly, please contact me using the feedback or comments buttons, and I will put you in touch.

© Commodity Conversations ®

Many years ago, before the advent of internet and email, I placed a telephone order  for some office supplies: paper for the photocopier, pens, files etc. I also ordered 20 rolls of toilet paper.

A few days later a huge truck pulled up outside our ground floor office and the driver called through the window. “Are you the guy that ordered the toilet paper?” he shouted.

Somewhere along the line the order had got messed up; the truck was full of toilet paper: 20 packets of 200 rolls each. I explained to the delivery driver that we didn’t want or need 4,000 rolls of toilet paper, and finally managed to negotiate taking just one packet of 200 rolls. It took us years to get through it!

I remembered this story last week when I was in our local supermarket in Switzerland. I have never seen so much toilet paper: the shelves were full of it, and there were piles of it everywhere. I had seen a video of people fighting over toilet paper in Australia (of all places), and I suppose the Swiss wanted to be prepared in case of panic buying here. However, no one was panic buying toilet paper, and I suspect the supermarket had somewhat over-ordered.

My mission that day was not to buy toilet paper, but parmesan cheese. I couldn’t find any. I asked an employee. He pointed to some empty shelves in the cheese display and told me that they had run out. “Panic buying?” I joked. “Yes,” he replied. But he wasn’t joking.

I was wondering why anyone would panic buy parmesan, but then I saw the empty shelves where the pasta should have been. I realised that if you are stocking up on pasta, you would probably also want to stock up on parmesan. To test my theory I checked out the tomato sauces: there wasn’t a single can or bottle of the stuff left in the shop.

In theory, Switzerland is the one country in the world where you should never have to worry about running out of food. It is, as far as I am aware, the only country that maintains a three month strategic food stockpile.

Switzerland was also for a long while the only country in the world where every dwelling, school and office had to have a nuclear shelter. The shelter had to be kept clear, clean and stocked with enough food and drink to last until any nuclear holocaust ended.

As a child I had sometimes wondered what it would have been like to be the only survivor of nuclear war. Having lived in Switzerland for nearly 15 years I now wonder what the world would have been like if only the Swiss had survived a nuclear war.

Switzerland’s food stockpiles hit the headlines a few weeks ago when the government decided to no longer store the 15,000 tonnes of coffee that were part of their strategic stockpile. The government felt that coffee contained almost no calories, and hence was not a food. Their decision caused a social media storm, and the government eventually delayed their decision under pressure from local coffee companies. Coffee is important for Switzerland. Not only is the annual per capita consumption of 9kg double the 4.5kg consumed in the United States, 60 percent of the world’s coffee is traded through Switzerland.

As well as coffee, Switzerland stocks three of four months consumption of a whole list of staples including directly consumable foodstuffs such as sugar, rice and cooking oil, as well as products that need to be processed before consumption, such as bread grain. Fertilisers and animal feedstuffs are also stockpiled, as are petrol, diesel, heating oil and aviation fuel. Medicines such as painkillers and vaccines are also stockpiled.

The stocks are held and financed by 300 private companies. The coffee stocks are, for example, financed by a fee of 3.75 Swiss francs on every 100kg of imported beans, raising 2.7 million Swiss francs annually to compensate private companies for storing beans.

The government estimates that in total, the system of strategic stocks costs each of Switzerland’s inhabitants an average of about CHF 12 a year.

Although it may sound a silly idea, these stocks have come in handy recently. In 2018, the level of the River Rhine fell so low that ships carrying mineral oils and fertiliser could not get to Switzerland, and the Swiss dipped into their stockpiles. Also, during a global shortage of antibiotics in 2017, Swiss hospitals dodged a crisis because of their stock of the drugs.

In addition to these stocks, each Swiss resident is encouraged to have enough food and basic necessities at home to last them one week. In 2016 the government even produced a video (in German) to remind them of their civic duty to do so.

This basic list of necessities includes toilet paper, but apparently the government doesn’t include the stuff in strategic reserves.

Having failed to buy any parmesan I did pick up a packet of toilet paper on the way out. You never know!

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Last week the UK’s Channel 4 Dispatches programme highlighted child labour on Guatemala’s coffee farms. Posing as researchers, the Dispatches’ team visited farms they were told supply Starbucks or Nespresso. They found children as young as 11 or 12 working long hours in gruelling conditions for as little as £5 per day.

The programme found that most of the children were working to help feed their families, and highlighted the piteously small amount of money that coffee farmers receive for their beans. The programme put the the average cost of a cup of coffee in the UK at £2.50 of which the coffee shop receives 88p, staff receive 63p, and the taxman 38p. The programme estimated miscellaneous costs at 28p and profit for the brand owner (ie Starbucks or Nespresso) at 25p. This leaves 10p for the coffee supplier, of which only 1p goes to the farmer. A fraction of that 1p goes to the coffee pickers.

You can perhaps argue whether that breakdown is accurate, but whatever the exact figures, the coffee farmer receives only a tiny proportion of the final sale price of his production. Poverty is widespread in coffee-growing areas throughout the world, and local families often have no choice but to send their children out to work at a young age.

Although it is no excuse, this situation is not new. In his book ‘Uncommon Grounds – The history of coffee and how it transformed our world’, Mark Pendergast writes, “Children begin helping with the harvest when they are seven or eight. Though many campesinos keep their children out of school at other times for other reasons, it’s no coincidence that school vacation in Guatemala coincides with the coffee harvest.’

It is not clear whether the Dispatches team filmed the children during school vacation, or whether the children were skipping school to work, but both Starbucks and Nespresso have made clear that child labour is unacceptable at any time in their supply chain.

In a statement George Clooney, Nespresso’s ambassador, said “I was surprised and saddened to see this story. Clearly this board and this company still have work to do. And that work will be done. I would hope that this reporter will continue to investigate these conditions and report accurately if they do not improve.”

Meanwhile, also in a statement, Nespresso’s chief executive said that the company had launched an investigation to find out which farms were filmed and whether they supply Nespresso. “We will not resume purchases of coffee from farms in this area until the investigation is closed,” he added.

Starbucks also said that it had launched an investigation into the claims brought by Channel 4. “We can confirm we have not purchased coffee from the farms in question during the most recent harvest season, and we will not do so until we can verify that they are not in breach of C.A.F.E. Practices – our ethical sourcing program developed in partnership with Conservation International that provides comprehensive social, environmental and economic standards, including zero tolerance for child labour.”

However, in an interview with The Guardian, the Dispatches’ reporter said that it was far too easy to to announce an investigation and halt supplies from these regions, but doing so will further punish the farmers and the desperately poor families who rely on them. “The reason these kids are working is that their parents – and the farms they work on – are not paid enough,” he added.

Unfortunately, problems in the coffee supply chain are not limited to Guatemala. A Thomson Reuters Foundation investigation published last December, uncovered extensive slave labour in Brazil’s coffee industry. The investigation found that coffee produced by forced labor was stamped slavery-free by top certification schemes and sold at a premium to major brands such as Starbucks and Nespresso.

The coffee supply chain has two problems that are common to many commodities sourced in poor countries: lack of transparency and low prices. It therefore really encouraging that the coffee industry is launching two initiatives to combat these two problems.

The first is FarmerConnect, which is built around a blockchain core powered by IBM. The second, again powered by IBM, is the Thank My Farmer app that will be launched later this year. Working in conjunction with FarmerConnect the app will allow consumers to know exactly where their coffee comes from and allow them to contribute directly to the farmer, and/or to support social and educational projects in coffee growing regions.

We will be writing more about these promising initiatives in coming weeks, and of course we give them our full support.

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Image by Pixabay

Continuing on the theme from last week of government intervention, the following is an extract from my book The Sugar Casino, published in 2015:

In a freely functioning market supply and demand is, in theory at least, matched by price. If demand increases or supply falls, prices rise to encourage supply while at the same time reducing demand. If supply increases or demand drops then prices fall, sending a signal to producers to reduce output or to consumers to increase demand.

This process is what is often described as the “invisible hand”, the unobservable market force that helps the demand and supply of goods in a free market to reach equilibrium automatically. Adam Smith introduced the phrase in 1759 in reference to income distribution and then used it again in “The Wealth of Nations” in 1776. He argued that an economy works best in a free market scenario where everyone works for his or her own interest – and where the government leaves people to buy and sell freely among themselves.

The American baseball player Yogi Berra once said, “In theory there is no difference between theory and practice. In practice there is”.

In practice, markets may not always be efficient, and governments may need to interfere to correct those inefficiencies. This might happen if producers club together into a cartel to raise prices, requiring the government to intervene to break up the cartel. But even without a cartel a sugar mill might be so big in a particularly region that it could in its own right be a monopoly employer or buyer of cane, forcing down wages and cane prices, or a monopoly seller, forcing sugar prices higher.

In addition, sugar producers might not correctly price what economists call “collective goods”: these could be the environmental costs of factory pollution or heavy traffic on the roads at harvest time. Individual producers might not also correctly value the benefits of research into new cane varieties or of infrastructure investment such as railways or ports. On a wider scale governments, rather than markets, may better provide collective goods such as education and health services.

Inefficiencies sometimes creep into markets due to a lack of information. To counter that a government could encourage the setting up of commodity exchanges to facilitate trade and improve price transparency.

But governments also interfere in markets, not to correct market inefficiencies, but to obtain specific policy objectives such as the alleviation of poverty or a fairer distribution of wealth. Interfering in the market in this way can however have a cost: it can create price distortions that prevent the most productive and efficient allocation of resources. This “economic loss” has to be measured against the “social gain”, say, of a more equal income distribution.

Governments may also interfere in markets for diplomatic reasons, for example by applying a lower import tariff on sugar from one country compared to sugar from another. Lower import tariffs might be applied to curry favour from a neighbour or in exchange for lower tariffs on other goods within the framework of a Free Trade Area (FTA). Altruistic governments may also reduce or remove import tariffs on sugar imports as part of a policy to promote growth in developing countries.  Such an example would be the EU’s “Everything But Arms” agreements.

In the agricultural markets some governments, in particular China, may try to keep cane prices high in order to maintain rural incomes and to slow down the migration of the population to the cities. Other governments (or more correctly politicians) may try to keep cane prices high for less altruistic reasons: to win political votes. India is an obvious example of this; perhaps Thailand is a less obvious example.

Governments may also often interfere in markets to maintain employment. It would certainly be more cost efficient, say, for Bangladesh to close down their few remaining sugar mills and import the sugar they need from Brazil or Thailand. (The same also applies, but on a much larger scale, to China.) However, closing factories can result in a politically unacceptable increase in unemployment. Sugar industry employees in Bangladesh and China might be better off making something else other than sugar, but a reallocation of that sort takes time. It would involve short-term hardship for the employees concerned and would be a difficult “political sell” in the short term. And everyone knows that politicians operate in the short term: their time frame is the next election.

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Bloomberg published an interesting opinion piece last week on the resurgence of government in our daily lives.

Since the Reagan / Thatcher era, government has been seen as `the problem not the solution`, particularly in terms of the economy. Over the past 40 years, privatisation and other market liberalising measures have reduced the role of government, leaving space for `market-based solutions`.

The international commodity trade benefited from this trend. When I started in the commodity business in the late 1970s, it was dominated by state agencies. Prodintorg was the monopoly importer in the USSR, as was COFCO in China and BULOG in Indonesia, along with a host of other government agencies in many other countries. If you wanted to buy sugar from Brazil you could only buy it from the IAA, a stage agency. And if you wanted to buy sugar from Australia you had to deal with QSC, a quasi-state agency.

Most of these agencies were dismantled during the 1980s and 1990s as governments withdrew from the international agricultural commodity trade; our business was effectively privatised.

If the Bloomberg opinion writer is correct, the pendulum is now swinging the other way. Governments now have the support of voters to be increasingly interventionist.

Once again, international agricultural commodity markets are not immune from this trend. The Chinese government, through COFCO, is an increasingly important player in managing China’s food imports. The Russian government, through VTB, is becoming an increasingly important player in Russian grain exports. Meanwhile, other countries are becoming more interventionist in imposing tariffs and other trade barriers.

What effect might this have on our business?

First, politics could become more important than price as a market driver. Although not perfect, markets do a reasonable job of sending the right signals to producers and consumers, importers and exporters. When governments interfere, these market signals become distorted: farmers end up growing the wrong crops while importers import the wrong quantities or the wrong commodities. Markets are better than government committees at balancing supply and demand all along the food supply chain.

Second, the trade in food could be weaponized. Less democratic governments have sometimes used food supplies as leverage to gain power over dissenting groups, using starvation and famine as a political weapon. More solid democracies happily no longer do that, but they do use food as a weapon in their international relations. Look at Russia’s ban on food imports from the EU, or China’s import tariffs on agricultural imports from the US. These types of intervention can distort markets and lead to an inefficient allocation of resources. 

Third, we may see the return of corruption, both institutional and local. Putting a poorly-paid government bureaucrat in charge of a country’s food imports could lead him to favour one supplier over another – or to grant an import licence to a ‘friend or relation’. 

Localised corruption is rare in advanced democracies, but institutionalised corruption is widespread. If governments become more involved in our business, the power of the lobbyists will grow. It will be increasingly worthwhile, and profitable, to lobby for or against a tariff, or for or against an import or export ban. Politicians need money to get elected even in the most transparent democracies.

If the Bloomberg article is right, it could become even harder for the world’s grain and agricultural commodity traders to make a living.

First, trading companies got out of the business of bribing government officials long ago, and for both ethical and good business reasons they won’t want to get back into it.

Second, western agricultural trade houses may be handicapped if government-owned competitors trade for political rather than price reasons.

Third, politics increases risk. Throughout 2019, for example, the price differential between Brazilian and US soybeans could – and did – change at the click of a tweet. Traders like volatility as long as it is not political.

If the world wants to feed the estimated almost 10 billion people that will be will living on this planet in 2050, then it will need international free trade in agriculture. Let’s hope that the pendulum doesn’t swing too far in the wrong direction.

© Commodity Conversations ® 2020