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Being in the heart of “Hurricane Alley” this year and having firsthand access to the Florida Orange crop, our offices turned into a virtual media center over the past 3 weeks with regard to analysis and commentary on damage to the Florida Orange crop and the implications it might have on FCOJ prices at the New York Board of Trade. We’ve always prided ourselves on our work in the softs markets, but when ABC World News is calling for an interview, I start to get the feeling that maybe our work here may actually mean something to people other than the investors who follow our trading advice.

Now that the dust is beginning to settle and the plywood is coming off the windows, I think it’s time to address our investors with a realistic look at this year’s Florida Orange crop damages, and explore some actual trading opportunities it may present.

Granted, the initial spec led rally is over. Charlie and Francis are history and Ivan spared the Florida peninsula. The damage, however, has not yet begun to be measured to any specific degree and its long-term impact on juice prices will be felt for the next 1-2 years or longer.

Before we can discuss why juice may be a value at current levels, we must first understand what was going on with the Orange Juice market before Charlie and Francis paid their respective visits.

Just a few short months ago, Frozen Orange Juice prices traded at their lowest levels since 1977 at the NYBOT. Much of this had to do with an excess supply problem and for this, we can start with Brazil. Like in many other agricultural commodities, Brazil has become the global superpower of the orange industry. Besides being the #1 provider of Orange Juice to the US, Brazil now dominates the markets outside the US, making exports of US Juice virtually non-existent. In addition, if it were not for a surcharge slapped on Brazilian juice coming into the US, many feel that the US orange juice industry could be almost wiped out entirely by Brazil. Talk of the US government reducing or repealing this surcharge entirely had many Florida Citrus growers very nervous. Yet assurances from both parties in this year’s election has calmed growers over the last few months and allowed the market to regain some composure. Florida remains a key supplier of US orange juice and Brazil does not yet have the capacity to make up a major shortfall in US production.

Large US supply was also dogging prices. Florida growers produced a record crop of 245 million boxes of oranges in 03/04. This represented a 17 percent increase over the 02/03 crop and yielded about 1.5 billion gallons of orange juice. This new orange juice was hitting the supply pipeline at a time when storage supplies were already high.

Unlike California oranges which are used primarily as table fruit, Florida oranges are used almost exclusively for juice, accounting for 97% of all US orange juice production.

Possibly the most daunting development for OJ prices in the last 24 months has been the blow demand has taken since a man named Dr. Atkins named Orange Juice as a top enemy of weight watching carb counters. With popular low carb diets such as Atkins and South Beach advising followers to avoid carbohydrate-laden orange juice, annual per capita consumption has fallen from nearly six gallons in the late 1990s to below five gallons today.

This is why storage supplies increased in 02/03 even when harvest numbers were lower.

These are the factors that took juice to its lows earlier this summer. Yet the market did its job of pricing in these fundamentals. Nothing cures low prices like low prices. And juice finally hit a price level that was considered too low.

In addition to trading at historically cheap prices, some of the fundamentals that brought juice to the recent lows began to turn back in OJ’s favor. The Florida Department of Citrus launched a counter-attack against low carbohydrate advocates in the form of a $7 million dollar advertising campaign touting the health benefits of Orange Juice. The industry itself responded vigorously as well, rolling out several low carbohydrate, low calorie versions of their traditional product that began to rejuvenate OJ sales in supermarkets nationwide.

Orange Juice prices began to rally to reflect these firming fundamentals. This is where we were when Hurricane Charlie came along.

Private forecasts before the storms had this year’s Florida orange crop pegged at about 225 million boxes, not a record number, but a fair harvest by historical standards. Charlie’s path took it right through the gut of the Florida Orange producing region. Francis hit from the other side of Florida and was a bit weaker by the time it made it into key growing regions, but did its damage nonetheless.

Our estimates as of today, which are close to industry estimates, have losses from Charlie close to 25 million boxes of oranges. Losses from Francis could total at least another 5-10 million boxes. This could drop 04/05 Florida Orange production down to around 190 million boxes.

As we mentioned, as Florida oranges are used almost exclusively for making Orange Juice, a reduction in Florida orange production will have a substantial impact on the FCOJ futures contract price. A 190 million-box crop would be the smallest harvest since 1998/99 crop year when the state produced 186 million boxes of orange juice. Prices of FCOJ that year topped out at over $1.25 per pound. The November ‘04 Orange Juice contract at the NYBOT closed at 77.8 cents per pound today.

By this comparison, we are not suggesting that prices could reach $1.25 this year. With more back up supply in storage and a lower per capita demand, the fundamental background for Orange Juice is quite different today than it was in 1997.

Yet, if losses meet or exceed current estimates, we project a realistic possibility that prices could exceed the $1.00 mark by the time harvest concludes in April.

The reason prices are not yet reflecting these losses is the amount of uncertainty surrounding them. Hurricanes do not affect the entire crop the same way. Instead, some areas can be decimated, while others only a few miles away can be left virtually unscathed. This makes gauging damages all the more difficult, especially this soon after the storms.

In addition to price increases resulting directly from losses attributed to Charlie and Francis, the secondary effects of the storm could add another bullish push to prices later in the year.

In Orange groves exceeding more than 50% losses to the crop, it is often not economical for growers to harvest at all. This means that in counties such as Polk and Hardee, two of the three largest yielding counties in Florida that were hit by both Francis and Charlie, harvest in many groves may not take place at all. Losses such as these would not even be counted in private or USDA estimates until harvest was almost complete.

In addition to wind damage, root damage to trees from excess water is now becoming a main topic of concern within the orange industry. Florida was already experiencing a banner year for rainfall before the hurricanes of 2004. Much of the excess water dumped by these storms could not be absorbed by the ground and turned many orange groves into large, shallow lakes. Orange roots begin to rot with this much moisture, which could be a longer term, yet realistic factor in reducing not only this year’s crop, but future production. This factor could add bullish fuel to a market finally digesting immediate losses later this year.

The USDA releases its first official estimate of the 04/05 orange crop reflecting hurricane damage on October 10^th. While we don’t expect it to show the total losses from the storms (for those will not be able to be counted entirely until the end of harvest), it should give us a ballpark figure for where we stand heading into years end.

As we stated above, unless there is a stunning surprise in the USDA report, we believe OJ prices will need to gradually begin adjusting higher through the 4^th quarter of 2004 and into the 1^st quarter of 2005 until the total reduction in supply is finally accounted for.

Yet, with specs still holding a considerable long position in Orange juice, the market remains vulnerable to sell-offs in the near term. We would not recommend trading futures contracts in this market because we could see increased volatility in the coming months. We do not advise buying options either, for time value can eat away your premium before the market has time to move in your direction.

Instead, as with most markets, we advise an option selling strategy to fully capitalize on the current situation in Orange Juice. For while we are not sure how high, or when prices will move, we do feel relatively confident that prices will not move sharply and consistently lower considering the recent reduction in fresh supplies. This then, may be an ideal situation for a put selling approach. The seller of puts profits as long as the price of OJ is anywhere above his strike price at the time of expiration. If it is below his strike, he takes a loss. However, unlike futures trading, a put seller can sell his options at strike prices substantially below the current price of Orange Juice.


James Cordier & Michael Gross
Contributing Writers, Liberty Trading Group
Optionetics.com ~ Your Options Education Site
liberty_trading@optionetics.com

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