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  • QA 172
    Question:
    What is the meaning and impact of a 'squeeze' in London robusta futures?
    Background:
    Market reports tell us that 'London Robusta is experiencing a squeeze'. What does this mean and what is the impact on Robusta prices?
    Asked by:
    Importer - Morocco
    Answer:

    In futures trading the word 'squeeze' refers to a situation where dominant long holders of spot month contracts prefer to take delivery. This then requires those holding spot month short positions to tender physical coffee. If tenderable spot coffee is not easily available, then spot month prices may be 'squeezed', i.e. they will rise to the point where the spot long holders may become interested to sell their futures position, or holders of tenderable coffee come forward to release it to those needing it. The classic squeeze occurs when it is no longer possible to buy fresh shipment coffee from source countries in time to make a clean delivery against a future position. 

    Developments on the spot November 2007 position at Euronext-Liffe (the London robusta futures market - www.euronext-liffe.com) suggest that, instead of selling and offsetting their positions, long holders have been 'stopping' the tenders that have been made. That is to say the long holders have taken delivery of the coffee in question rather than enter into offsetting sales. Usually, most futures positions are cleared through offsetting sales and purchases as the case may be.

    Alongside this, it would appear that the total outstanding November short sales exceeded the readily available supply of tenderable coffee and so a 'squeeze' occurred. The spot month price was not only influenced by the general availability of coffee, but also by an artificially high demand for coffee in a short period of time.  This is why spot November 2007 has been showing a premium of some USD 500/tonne over the next delivery month of January 2008. Market reports suggest that some offsetting sales have been made at this premium of USD 500, clearly resulting in losses for the short sellers. See also the last paragraph of this Q&A.

    Obviously this kind of situation impacts on the pricing of both the spot and the next delivery month: the impact on November is clear enough but also: the market does not know whether those who are taking delivery of the November tenders will release that coffee back into the market or not.  The impact of whether they do so, or do not, depends on the nearby supply position. It is possible therefore that the price for the next spot month (which will be January 2008) could also be affected.

    Clearly, this 'squeeze situation' shows once again that the speculative short selling of futures is not for the faint hearted…

    It is not for the Coffee Guide team to offer any opinions here except to say that in the United States the Commodity Futures Trading Commission (CFTC) does not allow individual operators on the coffee futures markets to accumulate potentially dominating positions.  Exchanges in the USA monitor the relative price of physical coffee and when an artificial premium caused by artificial demand is noticed, the exchanges, with the support of the CFTC, can force traders to sell long positions near normal physical coffee prices.  This applies to other commodities as well.

    In London futures trading is of course also duly regulated and supervised but there are no limitations on the positions individual holders can accumulate. However, under the Exchange Rules the spot month long holders are obliged to always keep an offer of lots to be sold on the market. That is they must make a price to sell futures at all times. If not then the buyers of futures (the holders of the shorts) can declare a 'corner' and trading would be suspended.

    See Chapters 8 and 9 for detailed discussions on how futures markets operate and how the coffee trade makes use of them.

    NB:
    'Long' - someone who has bought a futures contract and has not made an offsetting sale;
    'Short' - someone who has sold a futures contracts and has not made an offsetting purchase;
    'Spot' - the nearest delivery position on the futures market, as well as immediately available coffee;
    'Tenderable' - coffee that has been graded and found suitable to be delivered against futures contracts;
    'Corner' - all available supplies of a given commodity are held by one party and deliberately withheld from the market;

    Posted 29 November 2007

    Related chapter(s):
    Related Q & A:
    Q&A 109, 115