The Face of the Commodity (1st Issue)

Written By Owen Higley

The Face of The Commodity

Think about your daily routine; from when you get out of bed in the morning to when you walk into the office, the classroom, or any atmosphere that you find yourself residing in for the day. As you preview your routine action by action is there a time where a cup of coffee comes into the scene? Are you a part of the 63% of Americans who enjoy a nice pick me up in the morning to help give the day a kick start. If you do find yourself sipping on a coffee in the morning what’s your means of acquiring it? Do you brew a pot, use a disposable cup, or pick up your favorite handcrafted morning brew from a local establishment? Regardless of how, where, and when you get your coffee, if you had to associate a corporation to your caffeinated concoction, I’d be willing to bet that the coffee giant Starbucks comes to mind. With their stores seemingly present on every corner, Starbucks is a global brand with a following that is large and loyal. Offering a wide variety of specialty coffee drinks, whole bean coffee, ground coffee, coffee mugs, cups, and more, there’s no question that the backbone of Starbucks is coffee. Being said, while coffee is a vital resource for Starbucks, it’s also an agricultural commodity available to trade and subject to its own price fluctuations. Being both an integral resource to a company valued at over $100 billion as well as an individual commodity, a question of correspondence comes to mind. Trends and correspondence between the two entities as financial assets (SBUX and KC00) is the question we are going to be diving deeper into today. If the Starbucks corporation was a factory, coffee as a resource would without a doubt be the most critical input; so how have recent changes in price and volatility in the commodity as seen in the Coffee Continuous Contract (KL00) mirrored, predicted, or opposed the market valuations of Starbucks as they have climbed the coffee retail ladder to the very top.

Data:

When attempting to compare two variables that would generally be difficult to find a relationship between due to limitations such as different units of measurement, different scales, and contextual differences, a handy mathematical method can be applied. Used to show correspondence between differing variables, the equation is known as the correspondence coefficient. The correspondence coefficient allows us to develop an understanding of the strength and direction of correspondence between two distinct variables. To give a general tip as to what the numerical output of the correlation coefficient means, the coefficient can be any number between -1 and 1 with a value of -1 meaning there is a perfect negative correspondence (variables move in perfectly opposite directions over the same time period) and a coefficient of 1 meaning there is a perfectly positive correspondence (variables move in the same exact direction over the same periods of time). When taking percent changes in raw material or equity price (respectively) from opening to close over the past YTD range for every day the market was open, a correspondence coefficient of 0.3694 is yielded when comparing our “variables” SBUX and KC00. This coefficient signifies a weak and positive correlation over the past YTD range, and, as the coefficient tells us, some similarities in trend can be seen when examining the two financial instruments' percent growth paths on the same set of axes.

Percentage Increase in Security Price

Blue: KC00 (Coffee Continuous Contract)

Green: SBUX (Starbucks)

Diving Deeper:

While looking at and comparing the aggregate set of data over the past year for both coffee as a commodity and Starbucks as an equity and looking at segmented growth over the period it can clearly be seen that there are time periods where the growth trends more closely mirror each other. For example, from around the start of Q3 (July 11, 2024) to nearly the end of the fiscal year (November 27, 2024) the growth lines are near reflections of each other, so much so that when re calculating the correspondence coefficient over this new, shorter time period the result is 0.6996, which signifies a strong positive correlation. The question at hand while looking into this specified time period now becomes: why? 

Are there news reports, innovations in the agricultural sector, changes in demand for consumer acquisition of coffee, or other events simultaneously linked to both coffee purely as a resource and coffee as a developed product within this time period which caused a heightened level of correspondence? Well, that's what we’ll be talking about next. 

Starbucks sources their coffee beans from a variety of countries in the “Coffee Belt” (made up of countries in Latin America, Africa, and Asia). With a corporation as large as Starbucks an immense supply of resources is needed, sourcing whole coffee beans from over 400,000 farmers in the coffee belt region. Moreover, as a result of their C.A.F.E. (Coffee and Farmer Equity) practices, Starbucks is obliged to positively impact the livelihoods of their suppliers through insurance of honorable compensation. Linking this information to coffee as a commodity, over the past year commodity prices (KC00) have increased nearly 12%. Much of this increase in price over the span of 2024 can be attributed to a lack of supply of the commodity due to extreme weather conditions in Latin America and Asia. looking into the case of Brazil in particular, which produces around 40% of the global coffee supply; extreme drought was present in Latin America throughout 2024, and as if drought wasn’t a large enough problem for coffee farmers, it had a butterfly effect which caused wildfires wreaking havoc on many Brazilian coffee farms. Over the two quarters of analysis both KC00 and SBUX experienced gradual price increases, but it is unlikely that a company with operations to the scale of Starbucks would experience extreme equity price decreases even with high levels of degradation to a keystone resource for the corporation. However, Starbucks' return on assets decreased from 3.51% to 2.90% in Q3 of 2024 which makes up a bulk of the time period where correlation of KC00 and SBUX was strong and positive. Inventory falls under the asset category, and for Starbucks, while there isn’t much concrete information publicly available about the ratio of coffee inventory individually to total inventory, the fact that Starbucks buys about 3% of the world's coffee provides us with the inference that coffee makes up a sizable amount of their inventory. 

Bringing it All Together:

It may be a long shot to assume that the Q3 decrease in return on assets for Starbucks is linked to the shortage of global coffee supply and increased coffee commodity prices (KC00 prices increasing by approximately 86%), crazier statements have certainly been made. Now it clearly isn’t a given that commodity prices on the coffee continuous contract (KC00) dictate equity prices for Starbucks, but over the time period where strong positive correlation was shown between the two securities, the decrease in supply of coffee without a doubt played a role in increasing KC00 prices. Is there reverse psychology at play here? Can these numbers be pieced together in some complex or abstract way to help provide more clarity to the correspondence? Or is this correspondence between the global coffee giant and their precious commodity in combination with reputable statistics and global events just a big timely coincidence?