Market Mood And $400 Million On The Table

The sugar market in NY closed at a high in this short week due to the Easter holiday. May/2015 closed the session at 12.74 cents per pound at a substantial 61-point high, a little over 13 dollars per ton. Far from being a price recovery, this is just a technical correction according to some analysts. The other trading months at the NY exchange experienced highs between 14 and 51 points, from 3 to 11 dollars per ton. However, it is worth pointing out that the sky hasn’t turned pink. The real has appreciated by over 3% in the week, closing at 3.1292. Compared to last week’s closing, sugar has gained only R$15 per ton. Should the appreciation of the Brazilian currency continue, this should be – paradoxically – a reason strong enough to put a stop to the increase in cents per pound due to the mill’s current sense of loss to pricing for May/2015.

On the other hand, a respected market executive in the United States, comments by e-mail that “we might as well fasten our seatbelts for the Sugar market in NY will break 11 and we will soon have 10 cents per pound”. This is just an instance of the type of mood which the foreign market is working with. The funds, for example, are totally comfortable. According to the model developed by Marcos de Sá Moreira Masagão, from Future Analysis Consultoria, whose result was kindly given to Archer, the average price for fund sales is at 15.65 cents per pound in May/2015 and 16.16 cents per pound in July/2015. Assuming a net short position of 115,000 lots equally divided between the two maturities, compared to Thursday’s closing, the funds are gaining over US$400 million.

The second semester should be full of surprises, which is not just this writer’s wishful thinking, but actually a real possibility supported by a combination of possible factors. Notice that the increase in ethanol consumption due to the anhydrous blend change in gasoline starting this month, and the expected increase in hydrous consumption in the country’s second largest consuming state because of the tax change which favors ethanol competitiveness, should divert more sugarcane to fuel production. This translates into less available sugar.

Since trading companies are more selective and restrictive when it comes to this harvest’s export sugar businesses because the fluctuations in last harvest’s premiums were almost fatal to many of them, when we compare the traded values in long-term contracts with the harsh reality shown by the sluggishness of the spot market which devalued the premiums, this year the approach has been more careful. Having said that, in order to make money faster at the start of the harvest, a lot of mills facing difficulty in adjusting their tight cash flow must prioritize ethanol, since the export contracts are running low – less sugar available.

The price curve of futures contracts traded in NY shows the market is pricing a modest improvement in sugar prices for next year. My point is that this perception of improvement can be brought forward to the second semester this year. Brazil’s competitors in sugar production carry a much higher cost than Brazil’s and way above what the market shows in NY quotations. That is, how will these countries respond, mainly India and Thailand? Will there be more subsidies or migration to other crops which pay the producer better?

May/2016 in NY is trading with a more than 13% premium over May/2015. October/2015 spread with March 2016, on the other hand, shows October trading at a 108-point discount against March which amounts to a cost and carry of 20.26% a year!!! With this large a spread , it would be only logical to assume buyers on the foreign market would rather bring forward their purchases and encourage inventories in the consuming countries because carrying sugar for them is a lot cheaper than what the market shows (interest rate in China, for example, is 5.75% yearly; in Saudi Arabia, it is 2%). And how come that doesn’t happen?

Maybe the reason why that doesn’t happen can be explained by market moods such as the ones the executive mentioned at the beginning of this comment. It is hard for the foreign analyst to understand that for those who think in dollars the feeling is the sugar market in NY can fall even further. But, for the mills which think (correctly, by the way) in real, low prices in NY, as long as they are compensated by the real devaluation, are neutral – especially because the real devaluation affects oil imports and can adjust ethanol prices making its arbitrage with sugar even greater.

I prefer focusing, whenever possible, on the analysis in real per ton. Over the last two years, the average price in NY converted by the dollar exchange rate of the day is about R$900 per ton. At the worst scenario over these two years, the price came to R$724 per ton, and the highest was R$1.117. I find this parameter much healthier for the mills for they think in real and their costs are in real.

Last point to be pondered: the funds look at the commodities which are way down as far as prices go, and that’s when they might consider changing direction. In other words, that moment when we say “enough is enough”. Over the last twelve months the agricultural commodity which has devalued the most has been sugar. Is it time to pocket the US$400 million?