Cocoa could become a new luxury good - What’s driving the price surge?

What is causing the Cocoa price surge?

Chocolate has just become a luxury good. Believe it or not, but a tonne of cocoa is now more expensive than a tonne of copper. This would have been unthinkable only a few months ago. 

The increase occurs a week before the holidays when the seasonal demand for cocoa is very high. 

Chocolate prices are reaching record levels this year due to a combination of several factors, including poor harvests in West Africa. This region accounts for about 70% of global cocoa production, and over the last three years, harvests have been smaller due to warmer and drier climates, which hinder cocoa cultivation. Cocoa production has fallen to its lowest levels since the 2015/2016 season, with it being the third consecutive year of deficit. Deliveries to ports are 20 to 30% lower than the previous year and this deficit will be difficult to overcome through increased production.

Chart: 1YR up 225%, cocoa price reaching $10,000 per tonne

Source:xStation5 

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Prices have doubled since the beginning of the year, with the price reaching 10,000 USD. Moreover, more and more companies are trying to find substitutes for cocoa or new supply directions.

Malaysia's Guan Chong, one of the largest cocoa processors, is actively seeking cocoa supplies from countries such as Ecuador, Peru, and Indonesia, as concerns arise about the non-fulfillment of contracts by major planters from the Ivory Coast and Ghana.

ICCO expects a record deficit this year, reaching 400,000 tons. Bloomberg Intelligence analysts have raised concerns, suggesting that the supply problem may not easily pass and could turn into a structural challenge for the entire market. At the same time, global demand for cocoa is growing.

What is the impact on the industry?

Such a sharp increase in cocoa prices has a significant impact on the chocolate industry. Manufacturers have already begun to partially pass on costs to consumers. This problem particularly affects the markets in Europe, which is one of the more important consumers of this raw material. Additionally, this issue is compounded by new EU regulations aimed at limiting the consumption of products contributing to deforestation.

The issue has affected chocolate producers around the world with The Hershey Company in the US being down more than 2.24% this week (as of 27th March) and the owner of Cadbury’s, Mondelez International, has seen its share price fall 2.45%. Could this be a trend and will other producers be affected the same way? 

There is concern that financial practices in the cocoa marker are contributing to the price surge. So what happens is, cocoa traders often buy physical cocoa while holding long positions and simultaneously sell cocoa futures contracts with short positions to manage risk. This is supposed to offset any losses. 

When cocoa prices rise rapidly, the traders holding short positions face margin calls which demand for additional funds. To meet these margin calls, traders may be forced to buy back their short positions, further driving up cocoa prices. Smaller players may struggle financially and be forced out of the market, reducing supply and  pushing prices even higher. 

This situation, where the price is driven by financial activities rather than cocoa supply and demand fundamentals, raises concerns about potential market instability. Similar situations in other commodities have led to the collapse of some energy providers after major price swings. 

The impact on the cocoa market remains to be seen. It is important to monitor the situation closely for signs of economic instability. 

The concern is that, like the fallout in the energy market after the Ukraine war, smaller players in the cocoa trade may be forced out first, further tightening supply and potentially causing even more price volatility.

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