The coffee fractal

GUEST COLUMN

The Coffee God has woken up and he has decided to punish coffee lovers. The bean is set to rise for more than a few years to prices which not many of us can relate to.

Fractal science

Cycles and fractals are a part of nature and date back before everything. Fractals of population were discovered 200 years back, and then came fractals of mass psychology discovered by Charles Dow in 1880s. And now scientists have joined ranks on fractal research, as few as 30 years ago. It may take another 15-20 years for fractals to become more popular, maybe more popular than they are now.

But stock markets or mass psychology fractals may never get popular despite the amazing accuracy that they give. The force of the herd is strong, overestimation of personal skills normal, anchoring on to fixed ideas easy, believing that markets work on fair value science and every profit is linked to coming news are axioms the society considers the ultimate truth. To stand against all this beliefs and also trash them and say it's all a fractal is gibberish.

But then, it works. What one needs is internet, a trading system, market and fractal watching experience, a few rules, ability to stand against the herd and a cup of coffee. Well, most of these things can be acquired, even market experience. What is the toughest, however, is the cup of coffee and ability to sip it is alone and following a few rules.

Coffee and the upward spiral

Coffee has increased 60 per cent (since Dec ember 2007) on New York spot and 77 per cent on MCX Robusta (since April 2007). This was another high growth asset with another late news, which came more than a year late. In December 2006, there was a mention of the emerging bean (The Coffee God).

And then in October 2007 there was a prediction that all the sideways action of coffee has come to an end and it's time for the bean to go up more than 100 per cent in about 12 months. While the prices have been growing, the world's largest coffee chain, Starbucks is coming under workers union pressure.

This might look coincidental, but American customer is more sensitive now to coffee prices than a few years ago, when recession talks were unheard off and the state was not giving bailouts.

And mind you, this is just the beginning. We are in the first quarter of 2008 and coffee is already creating news. And the time ahead will indeed get trickier and tougher for coffee lovers and coffee chains.

Consumers either have to become contrarians fast enough or stop drinking coffee. Both the things go together. You can't get consistently wealthy if you are not an independent thinker and a contrarian. And if you are not rich you can't afford the Starbucks cup every day. 100 per cent rise from sub-dollar 100 levels was the short-term target. Coffee will become a luxury with long-term targets three times higher than Oct 2007 lows.

This means we are indeed headed for a shakeout. It's like oil, when it goes up a little, it's good for the oil producing nations, for some companies and a little expensive for other businesses as cost goes up. But when oil goes up higher, it's bad for all, as people start to innovate, start using alternative fuels, basically price elasticity. The higher it goes, the more consumer behaviour it changes.

Investing in coffee

Now replace oil with coffee, the higher it goes, the more it will hurt. Maybe it's still early to talk about the Rs 300 coffee mug. But "stop buying expensive coffee and save calculators" are already available on the web today. The coffee lovers are questioning the sanity of buying coffee from stores every single day instead of just contributing to the local "coffee pot fund".

Hugh U Chou, of the local coffee pot fund fame also accepts that office coffee may not stack up to the store bought versions, but is it really worth the long-term costs? He goes ahead and proves that many people drink the equivalent of a wide screen TV every year.

Hugh has saved for the local coffee put fund and has already made an annualised investment return of 6 per cent. The calculator assumes the store bought coffee price per cup at $3 a mug, which does not look too high even after rupee conversion.

His model also assumes one serving a day and the self-brewed or "office" coffee price per cup at $0.25 (less than 1/10 of the store cost). The model also takes tax considerations into account and recommends saving tax as office coffee is tax-free. There is a simpler solution. You can hedge your coffee, by buying some globally available ETFs, traded in London.

So even if coffee goes up, whatever you spend on the bean comes back in your long acquisition. This way you do not spoil your early morning peace and take out liquidity from the market by getting depressed and selling the rest of your equity portfolio. And if you need to be in the elite, join the local coffee board. These are simple solutions, but there is still need for independent thinking and understanding of the now famous coffee fractal.

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The author is CEO, Orpheus Capitals, a global alternative research firm