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Orange Juice and Weather Author(S): Richard Roll Source: the American Economic Review, Vol American Economic Association Orange Juice and Weather Author(s): Richard Roll Source: The American Economic Review, Vol. 74, No. 5 (Dec., 1984), pp. 861-880 Published by: American Economic Association Stable URL: https://www.jstor.org/stable/549 Accessed: 26-04-2019 21:56 UTC JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about JSTOR, please contact [email protected]. Your use of the JSTOR archive indicates your acceptance of the Terms & Conditions of Use, available at https://about.jstor.org/terms American Economic Association is collaborating with JSTOR to digitize, preserve and extend access to The American Economic Review This content downloaded from 131.215.225.159 on Fri, 26 Apr 2019 21:56:38 UTC All use subject to https://about.jstor.org/terms Orange Juice and Weather By RICHARD ROLL* Frozen concentrated orange juice is an is a relatively good candidate for a study of unusual commodity. It is concentrated not the interaction between prices and a truly only hydrologically, but also geographically; exogenous determinant of value, the weather. more than 98 percent of U.S. production The relevant weather for OJ production is takes place in the central Florida region easy to measure. It is reported accurately and around Orlando.' Weather is a major in- consistently by a well-organized federal fluence on orange juice production and un- agency, the National Weather Service of the like commodities such as corn and oats, which Department of Commerce. Forecasts of are produced over wide geographical areas, weather are provided by the same agency orange juice output is influenced primarily and this makes it possible to assess the pre- by the weather at a single location. This dictive ability of OJ futures prices against a suggests that frozen concentrated orange juice rather exacting standard. Geographic concentration is the most im- portant attribute of orange juice for our em- *Graduate School of Management, University of pirical purposes, but the commodity also California, Los Angeles, CA 90024. I am grateful for possesses other convenient features. It seems discussions with Eugene Fama and Stephen Ross, for unlikely to be sensitive to nonweather in- comments on an earlier draft by Gordon Alexander, fluences on supply and demand. For exam- Thomas Copeland, Michael Darby, David Mayers, ple, although the commodity is frozen and Huston McCulloch, and Sheridan Titman, for the coop- eration of Paul Polger of the National Oceanographic not very perishable, only a small amount is and Atmospheric Administration, and for comments in carried over in inventory from one year to seminars from the finance faculties of the universities of the next. During 1978, for example, inven- British Columbia, Alberta, and Illinois. Kathy Gillies tory declined to about 20 percent of the provided excellent research assistance. Financial assis- tance was provided by Allstate, the Center for Research year's "pack" of new juice.2 in Financial Markets and Institutions at UCLA and by Data on short-term variability in demand the Center for the Study of Futures Markets at Colum- are nonexistent, but there is little reason to bia. suspect much. Orange juice demand might 'The proportion produced in Florida is now close to very well respond to price variation in sub- 100 percent. Indeed, the annual publication, Agricultur- al Statistics, by the U.S. Department of Agriculture, no stitutes such as, say, apple juice; but national longer gives a breakdown by area, reporting the produc- income and tastes probably do not fluctuate tion only for Florida (presumably because production enough to explain a significant part of the elsewhere is so small). The last breakdown by area was daily OJ juice movement3 (which is substan- for 1961 (see Agricultural Statistics, 1972, Table 324). In 1961, Florida produced 115,866,000 gallons while Cali- tial, as we shall see). fornia and Arizona combined produced 2,369,000 gal- Short-term variations in supply induced lons. It may surprise the reader to know that OJ produc- by planting decision must also be quite low tion for frozen concentrate is mainly a Florida industry; because of the nature of the product. Oranges many table oranges do come from California. This grow on trees that require five to fifteen years difference between Florida and California oranges is attributable to differences in their sugar and juice con- tent and in their exteriors. Florida oranges are sweeter and make better-tasting juice. California oranges, being less sweet, have a longer shelf life and they also tend to have less juice but more appealing skins. Apparently, 2See Tables 380 and 382 of Agricultural Statistics there is not as much substitutability as might have been (1979, pp. 252 and 254). imagined. Actually, Florida produces the bulk of all 3A rough indication of exogenous shifts in demand oranges for both table and juice. In 1972-73, for exam- due to income and tastes can be obtained from U.S. ple, Florida orange production by weight was about 80 consumption of all citrus fruit which has hovered closely percent of the U.S. total. (See Florida Agricultural Sta- around 27 pounds per capita for a number of years (see tistics, Table 3, p. 4.) Table 384, p. 255, Agricultural Statistics, 1979). 861 This content downloaded from 131.215.225.159 on Fri, 26 Apr 2019 21:56:38 UTC All use subject to https://about.jstor.org/terms 862 THE AMERICAN ECONOMIC RE VIEW DECEMBER 1984 to mature.4 Thus, any vagaries in farmers' 1970's. However, the weather data are avail- planting decisions are felt much later and do able only for October 1975 through Decem- not impact the current year's crop. There ber 1981, so this constitutes the sample might, however, be short-term effects from period. There were 1,564 trading days during farming decisions concerning fertilizer use or this period. harvesting methods. These could be in- As is typical of many commodities, trad- fluenced by the prices of fertilizer and en- ing volume in OJ futures tends to be con- ergy. centrated in the near-maturity contracts. The It should be emphasized that even un- open interest of distant contracts, say 8 to 18 stable conditions of demand and supply months maturity, is often only 10 percent or would not eliminate the influence of weather, less of the open interest in nearer contracts, they would simply make that influence harder say from 2 to 6 months maturity. Because of to measure empirically. The main argument well-known problems in price data from thin in favor of studying orange juice instead markets,7 the fourth and longer maturities of other commodities is the geographical were discarded in the following empirical concentration of OJ production. The fact work. that nonweather influences seem unlikely to The nearest-maturity contract was also generate much empirical noise is simply an discarded after a close examination of its added benefit. price behavior around the maturity date. Volume of trading is quite high in the nearest I. Data contract until just a few days before expira- tion. But in the last several days of the A. Orange Juice Futures contract's life, open interest declines and price volatility increases substantially. A good Futures contracts in frozen concentrated example of the ensuing econometric problem orange juice are traded by the Citrus Associ- involved the contract which matured on ates of the New York Cotton Exchange. November 16, 1977. During the last fifteen There are usually nine contracts outstanding minutes before expiration, its price rose from with deliveries (expirations) scheduled every $1.30 to $2.20 per pound, an annualized rate second month, January, March, etc., the most of return of about 1.8 million percent. Such distant delivery being 17 to 18 months from events would seem to have little to do with the present. A contract is for 15,000 pounds the weather. of orange solids standardized by concentra- This leaves us with two contracts having, tion (termed "degrees Brix") and with respectively, between 2 and 4 .ionths and minimum "scores" for color, flavor, and de- between 4 and 6 months to maturity; an fects.5 equally weighted average of the daily returns Price data6 are available for each day since on these two contracts was chosen as the the exchange began OJ trading in the early basic OJ return for use in all subsequent analysis. (Using either contract separately gives virtually identical results. This is to be 4See John McPhee (1967) for a fascinating and enter- expected because the correlation between taining description of orange tree propagation and of the citrus business in general. their returns is .97.) 5The contract quality is specified as follows: "U.S. On a contract expiration day, the shorter Grade A with a Brix value of not less than 510 having a of these two contracts is dropped and a Brix value to acid ratio of not less than 13 to 1 nor more new contract, previously the fourth-from- than 19.0 to 1 and a minimum score of 94, with the factor of color and flavor each scoring 37 points or higher, and defects at 19 or better..., provided that [OJ] with a Brix value of more than 660 shall be calculated as having 7.278 pounds of solids per gallon" (Citrus Fu- tion) is determined by members of the exchange at the tures, undated). "Degrees Brix" is a term used in honor close of each day's trading.
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