Aging Coffee Stocks Force ICE to Act

A coffee producer weighs beans at a Costa Rican plantation. (Photo: Reuters via WSJ) 

By Leslie Josephs

Wall Street Journal

December 16, 2010

NEW YORK—The exchange that oversees the world's most actively traded coffee futures has answered a wake-up call.

Responding to a growing buzz that its stockpiles of arabica coffee include beans far past their prime, IntercontinentalExchange Inc. last week said it will for the first time prohibit beans too old to make good coffee from being delivered against the contract.

Coffee stockpiles have dwindled as bad weather has slashed consecutive harvests in some countries in Central America, as well as in Colombia, the world's largest producer of the prized, mild-washed arabica beans.

ICE's stockpile of certified coffee has plunged 44% since the start of the year

The ICE announced last week that it will include arabica beans from Brazil, the world's top coffee producer, on the list of coffees that can be delivered against the contract. The inclusion of Brazilian beans, the result of a deal that took more than a decade, is aimed at boosting liquidity and bringing futures prices back into line with the global supply situation.

The controversial decision to include Brazil, whose coffees are sometimes said to be of lower quality than those from other countries, stole the spotlight from two technical changes that could have possibly bigger ramifications. New clauses in the contract prohibit exchange-certified graders, who decide whether certain beans are good enough for the stockpile, from approving coffee that produces "aged flavors in the cup." The other change boosted the penalty sellers pay if their coffee sits in an exchange-certified warehouse for more than two years.

Some traders had complained that the beans they received when taking physical delivery against futures from ICE-certified stockpiles were so old they were unfit for consumption.

Old coffee beans "will never turn toxic, but it does change in flavor," said Ric Rhinehart, executive director of the Specialty Coffee Association of America. "[The coffee] tastes like straw or like you were chewing on a toothpick, or ran a glass of water through a paper bag."

On Wednesday, the most actively traded March arabica futures crested at a 13-and-a-half-year high of $2.2050 a pound, though the contract closed five-hundredths of a cent shy of Monday's settlement, which was the highest since 1997. The sparsely traded front-month December coffee contract ended up 0.3% at $2.1690 a pound. Analysts said prices closer to $2.40 to $2.50 a pound are a more accurate reflection of coffee's scarcity.

Higher prices have prompted some roasters to raise prices. Kraft Foods Inc. said Wednesday that it had increased ground-coffee prices by 12% for its Maxwell House and Yuban brands. Starbucks Corp. and Farmer Bros. Co. announced price increases for some of their products earlier in the autumn.

ICE's decision to monitor coffee's age was welcomed by some roasters.

"Anything that improves the quality of the coffee is something we'd be in favor of," said Rocky Laverty, chief executive officer at Farmer Bros.

ICE officials "are showing some sort of response to all the complaints they have been getting," said Rodrigo da Costa, a coffee broker with Newedge. "We don't have enough fresh, mild coffee," Mr. da Costa added. These changes bring trading in the contract "closer to reality."

ICE declined to comment on reports of old coffee sitting in warehouse stocks.

Traders said the new rules are likely to discourage a practice known as "decert-recert," in which older coffee is removed from stockpiles but then resubmitted for grading in order to secure a fresh certificate. There is no connection between a coffee's real age and the date on which it was certified.

Earlier this year, Serengeti Trading, based in Dripping Springs, Texas, submitted four-year-old Peruvian coffee to an ICE-approved warehouse as a test. Bert von Roemer, president of the firm, said he was surprised that the coffee passed.

"It should not have passed as fresh coffee," Mr. von Roemer said. All three measures that the exchange has passed will make the ICE contract "stronger and more reliable," he said.

However, Mr. von Roemer said he wants the aged-coffee rule to come into effect sooner. The measures, including Brazil's inclusion in the contract specifications, will kick in for the March 2013 contract.

With older coffee leaving the exchange and no fresh coffee to replace it because cash prices are higher than in the futures market, giving sellers no incentive to sell through the exchange , certified stockpiles are likely to continue falling below the current level of around 1.7 million bags, each weighing 60 kilograms. However, once the changes become effective, the new supply stream from Brazil could shore up stockpiles and help to bring the market back into balance.

---

Contact Leslie Josephs at Leslie.Josephs@wsj.com