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ELLIOTT WAVE


Coffee's Summer Rally

06/11/04 09:51:24 AM
by David Penn

Rallying from a springtime correction, July coffee heads higher and higher in summer.

Security:   KCN4
Position:   N/A

About two months ago I mentioned the "buy breakfast" commodity trifecta that some had suggested was a way of playing global economic growth -- particularly in areas like China ("Is Coffee Percolating Higher?," Traders.com Advantage, April 16, 2004). Since that time, at least if coffee futures are any indication, the "buy breakfast" model seems to be quite satisfying. At the time of the article, May coffee was trading in a range just above its December 2003 highs. Looking at a comparable July coffee chart, we see that the rally from those levels to current levels represented an advance of some 14-16 cents (basis July, the move was from 70-72 to 86 cents a pound).

In the April article, I suggested that there was an Elliott wave count that contributed to a bullish outlook. At the time, of course, coffee was in a correction that had began with the late January 2004 peak just above 80 cents (basis May; 82 cents basis July). The count provided suggested that coffee futures would find support in the 69 cent area (specifically a Wave two bottom). At it turned out, I was off by about two cents; May coffee bottomed at about 67 cents about two weeks after the Traders.com Advantage article was posted.

A "breakout, runaway gap, volume expansion"-laden third wave appears to have broken out in July coffee futures.
Graphic provided by: Prophet Financial Services, Inc.
 
At the time, I made no EW-based projections -- even though I was fairly convinced that the late January peak represented a Wave one top. With July coffee breaking out above this level recently, it seems like a few projections might be worthwhile as a yardstick by which to measure the plausibility of the count. Using Robert Fischer's method (Fibonacci Applications for Strategies and Traders), the length of Wave one (basis July; 82-64) times 1.618, and that sum added to the value at the top of Wave one (82 + 29) for a result of 111. Thus, a minimum upside for a fifth Wave is 111 cents per pound. I say "minimum" because without a completed third wave, it is difficult to anticipate the higher end of the any five-wave EW pattern.

One of the caveats I mentioned about the possibility of a significant bull market in coffee prices was that bull markets in commodities, unlike those in financial assets, tend to be driven not by optimism and growing confidence, but by anxiety and panic. Thus, another "yardstick" for the current rally in coffee is liable to be the level of concern for coffee shortages, or "disappointing" crop yields, or summer storms that might arise as reasons why coffee is doing what the EW count suggested it might do all along.



David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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