Only a few pockets in the world economy offer reliability and safety, or as Benjamin Graham (the father of value investing) would say, Offer safety of principal and an adequate rate of return. While reading this, you may already have thought of some, such as healthcare and personal hygiene products.
However, there is one thing that most people worldwide share every morning and evening: a fresh cup of coffee. Whether it's an espresso, cappuccino, or the latest drink invention from the barista at Starbucks (NASDAQ: SBUX), coffee is one investment that will offer the two metrics requested by Graham.
There are plenty of alleyways to take when investing in this space, and understanding the value chain is a significant initial step from investing in the actual price of harvested coffee to the manufacturers of products that enable brewing at different establishments to the existing establishment that sells you your cup.
Fortunately for investors today, there is an ETF (exchange-traded fund) for pretty much anything. So it should come as no surprise to you that an ETF directly tracks the market price of coffee beans via holding a basket of different futures in the same commodity.
Taking a look at the iPath Series B Bloomberg Coffee Subindex Total Return ETN (NYSEARCA: JO), investors can get great exposure to their views on where the price of coffee may be headed, as well as use it as a tool for predicting margins for businesses down the value chain described above.
Tracking the price of this index over the year 2021, where inflation was apparently 'transitory' and building up faster by the month, investors would have escaped the erosive effect in their buying power by investing in the daily consumed commodity.
This stock chart will show a price increase of over 70% during the twelve months. However, not everything was rosy for the coffee world, as the heightened costs of coffee directly affected margins for other businesses.
Suppose you are already catching the drift that there is a negative relationship between the price of coffee and the stock valuation for coffee-related businesses. In that case, you may as well scream bingo for yourself.
Now, the Inverse
Before you jump into hedging and risk-diversifying strategies with this new knowledge, you should jump into the next logical place in the value chain: manufacturers of equipment that allow for brewing, such as Keurig Dr Pepper (NASDAQ: KDP).
When the price of coffee rose, Keurig stock did so as well. In fact, now that coffee prices are on the rise again, analysts see a net upside of 22.5% from today's prices and an expected jump of 7.3% in earnings per share for the next twelve months.
Furthermore, this stock also pays a near-inflation-beating dividend yield of 2.8%. Combining investment in the coffee index with some of Keurig's stock will allow you to hedge against any inflation that may come, no matter how long it stays this time around.
The logic behind this? Businesses and consumers are more likely to buy equipment to brew coffee at home or more efficiently, especially when the heightened price of the commodity is passed on via higher prices at the counter.
What About the Downside?
In a hypothetical case, you expect inflation to persist and show through coffee prices, so you pick up some shares of Keurig and the coffee index to hedge this risk. What happens now that your portfolio is concentrated on the movement of coffee prices? You need to diversify this away.
Back to the previous example, when the price of coffee beans rose, other businesses that make their buck selling retail coffee drinks saw their margins deplete. Starbucks's stock chart will be almost opposite to the price of coffee beans because of this.
In fact, now that coffee is on the rise again along with Keurig, Starbucks is on its way to the 'buy zone' and becoming a tremendous value play for those brave enough to buy on the way down. However, there is another name worth looking at.
J.M. Smucker (NYSE: SJM) has entered the chat, and its first message is a sounding board for another way to diversify your coffee investment risk.
With a net upside potential of 28% from today's prices, this stock has already priced in the current upside momentum built-in coffee bean prices, making for an excellent early investment into your index plus Keurig hedge.
There you have it; your coffee money can now be put to better use other than just your regular morning brew. You can now diversify away from inflation and partake in the business cycle for coffee-related business; welcome to the big leagues.