The biggest rally in coffee in five years may be ending as the prospect of larger harvests spurs hedge funds to pare bets on higher prices, potentially cutting costs for big coffee sellers such as Kraft Foods and Starbucks.

Supplies of arabica, the world's most-grown coffee, will exceed demand by 6.67 million 60kg bags in the year ending in September 2011, according to ABN Amro Bank and VM Group.

That's the most in nine years and more than six times this season's expected surplus. Speculators cut their net-long position, or bets on higher prices, by 8.4 per cent since August 17, regulatory data show.

The rise in coffee coincided with surging food prices as flooding in Canada and drought across Russia and Europe ruined crops.

Wheat as much as doubled since June, contributing to riots over bread costs in Mozambique, and a United Nations price-index of 55 foods advanced to its highest since September 2008 last month.

No such shortages in arabica are forecast, with ABN Amro and VM Group anticipating a 7.4 per cent increase in output to almost 86 million bags, the most since at least the season ended in 2001.

"You cannot justify the spike on the upside if you look at the supply situation," said Christoph Eibl, co-founder of Switzerland-based Tiberius Group. "People who have been betting on coffee may lose. In the long run, fundamentals always overrule."

Arabica rose as much as 50 per cent since June 7 in New York trading, reaching a 13-year high of US$1.98 a pound on September 8, partly on speculation that rainfall in Colombia, the second-biggest producer after Brazil, would damage crops. Colombian coffee output gained 55 per cent to 615,000 bags last month, the Bogota-based National Federation of Coffee Growers said this month.

Coffee will average about US$1.52 a pound in the fourth quarter, or 20 per cent less than now, according to a Bloomberg survey of seven analysts.

Speculators accumulated a net-long position of 44,505 contracts by August 17, Commodity Futures Trading Commission data show. That's almost three times the five-year average and equal to about 750 million kg of coffee. They cut that in two of the last three weeks, to 40,757 contracts by September 7.

The last time prices rose this fast, in a rally ending in March 2005, they fell 38 per cent in the next six months.

Futures on the ICE Futures US exchange are anticipating a decline next year. Contracts from March 2011 are trading at a premium to longer-dated ones, a sign investors may be concerned about near-term supply.

Cheaper beans could help cut costs for companies including Illinois-based Kraft, which raised US prices twice since May on some types of Maxwell House and Yuban coffee.

Starbucks, the world's largest coffee-shop chain, said last month that more spending on commodities, mostly coffee, would add about 4c a share to expenses in the year ending in September 2011.

Shares of Starbucks are 10 per cent higher this year in New York trading, while Kraft gained 13 per cent.

Higher prices for commodities including coffee, oil and natural gas helped strengthen the Colombian peso and Brazilian real against the US dollar in the last 12 months.

The peso rallied 11 per cent against the US currency, and the real is up 5 per cent, trimming returns from dollar-denominated exports.

"The stronger peso takes a little of the shine off," said Rupert Stebbings, head of the Medellin-based unit of Chilean brokerage Celfin Capital.

"It's eroding some of the gains, but this is a coffee price level they couldn't have imagined."

While harvests may expand, supply now is still tight, said Nestor Osorio, the outgoing executive director of the International Coffee Organisation. Declining inventory "makes the markets much more nervous and much more vulnerable," he said.

Stockpiles monitored by ICE Futures US fell 35 per cent this year to 2.01 million bags, the lowest level in more than a decade.

This season's arabica surplus will be 1.01 million bags, the smallest amount since the 2007-2008 season, according to ABN Amro and London-based VM Group.

Problems with crops may also spill over into next season.

Colombia's harvest could fall next year after wet weather caused the worst outbreak of a plant-damaging fungus in 25 years, said Jose Sierra, who represents Antioquia, the nation's largest coffee-growing province.

Prices may keep rising as supplies increase because demand will also climb, said Judith-Ganes Chase, a former Merrill Lynch analyst who runs a consulting firm in Katonah, New York.

Global demand for arabica will expand 0.4 per cent to 79.32 million bags in the 2010-11 season, the highest since at least the 2000-2001 season, ABN Amro and VM Group estimate.

Unlike staples such as grains, coffee drinkers may not be willing to pay higher prices, said Raymond Keane, a coffee trader for Balzac Brothers in Charleston, South Carolina.

"There will be a point when consumers say: 'This is it'."

- BLOOMBERG