Cocoa Bean’s Correlation With NVIDIA Hits Over 90 Percent Amid a Cascade of Margin Calls and Exploding Price

This is not a recommendation for investment. The author does not hold any positions in the mentioned stocks.

Rarely does one have the chance to mention the modest cocoa bean and the powerful AI company NVIDIA in the same sentence. However, this unlikely combination has become a reality thanks to the remarkable ability of both assets to reach unprecedented heights.

COCOA PRICES HIT $10,000 PER METRIC TON FOR THE FIRST TIME EVER – CNBC

— Evan (@StockMKTNewz) March 26, 2024

Recently, there was a surge in the price of cocoa beans, a crucial component in chocolate production, reaching a record-breaking $10,000 per metric ton. This caused a frenzy within the fintwit community.

As mentioned in a previous post from February, a combination of factors has resulted in a nearly perfect storm for cocoa’s supply.

1. The most recent large-scale planting of cocoa trees took place in the early 2000s in West Africa, which currently produces approximately 75 percent of the world’s cocoa supply. However, these trees are now over 25 years old and no longer at their peak productivity.
2. The cocoa trees in Ghana and Ivory Coast have been greatly affected by bad weather, which has been worsened by the ongoing El Nino phase of the Pacific Ocean. This has led to a decline in cocoa production for the past three years, but this year’s impact has been especially severe.
3. The annual supply deficit of between 300,000 and 500,000 tons is causing concern as it is the biggest shortfall in over six decades, indicating that the world is moving towards a deficit.

1. Cocoa buyers and sellers frequently attempt to safeguard their physical supply from price changes by engaging in short selling of cocoa futures contracts. This strategy allows for one position to counterbalance any potential losses in the other.
2. In a market where prices are increasing, both traders and end consumers who have short futures positions experience losses and must consistently add more margin to avoid being forced to exit their positions.
3. As the size of margin calls grows too large to handle, certain traders may choose to cover their short position by purchasing cocoa futures contracts, further fueling the already volatile market prices.
4. It is expected that some traders will be over-hedged in a supply deficit situation, as they may not take physical delivery of the committed cocoa bean batches. This often leads to these traders closing some of their hedges by purchasing cocoa futures contracts.

To understand the magnitude of this issue, one can refer to the ICE Cocoa Futures Open Interest, which reveals that the overall count of active futures contracts is currently at its lowest point in the past five years. This is due to traders receiving margin calls and subsequently having to terminate their hedging positions.

In our previous report, we mentioned that cocoa was the only asset that could rival NVIDIA in terms of profitability. However, recent data shows that the correlation between these two assets has reached an impressive 91 percent. Upon further analysis of the weekly chart, this correlation is even higher at a remarkable 95 percent.

Is $COCOA the Tulips of today’s market? 🤔 Seems Cocoa has all the same mania from the Tulip Mania in the 17th Century… pic.twitter.com/LA9iYyy8ta

— Trading With Gravitas (@TGravitas) March 24, 2024

Some people are drawing comparisons between the current rise in cocoa prices and the Tulip mania that occurred in the 17th century.