We are living in some crazy times, where logic doesn’t always prevail. The president of the greatest economy of the world, for example, decides to use his Tweet to send out a message claiming that oil prices are artificially too high and the market – of course – drops. Imagine if one of these days Mr. Trump wakes up in the middle of the night and decides to tweet that sugar is bad for (his) health. Not even Rod Serling, American screenwriter, creator of the series The Twilight Zone could come up with such a surreal script. It seems to me that if the market hasn’t run into black swans lately to stir up the quotations, it can sure count on a kind of disastrous Dilma with yellowish hair to do it.
The sugar market in NY reached new lows – July/2018 traded at 11.77 cents per pound while some analysts believe we will close the technical gap of 10.44 cents per pound. As we have been saying for some weeks, it doesn’t matter how low sugar prices might look in comparison to ethanol; the fact is that this week new predictions for a greater Indian and Thai harvest reached the market and new lows were seen all over the trading months. And based on the C.O.T numbers released, speculators bought during the week, taking profit of their short positions above the market, while the trading companies sold, which probably shows we had some fixations by mills in the “throwing-in-the-towel” style. That’s what it looks like.
Ethanol closed the week trading at R$1.8300 per liter, with taxes – an accumulated drop of 20%. This value corresponds to sugar at 13.75 cents per pound FOB Santos, that is, 200 points above that of NY, despite the sharp drop. Something must be changed about ethanol trading. The prices have plummeted at the mill, but they haven’t changed at the gas stations.
Instead of taking advantage of lower prices to foster the consumption and consequently balance out prices improving the arbitrage with sugar, the mills are not the ones making money out of this perverse equation. As FEA/USP Professor, Marcos Fava Neves said, “Ethanol price needs to drop urgently at the gas stations so that the flex fleet consumption surprises us and can interfere in sugar prices, at least for the second semester. What has been happening for ten years repeats itself this year – the price at the mill drops and it does not at distribution so that one chain link (actually, two) transfers income to the other two links and the expected increase in consumption doesn’t occur. The most important action for the sector would be the consumption boom of hydrous over the next 3 months”.
Reinforcing the idea that the funds don’t need to rush to buy back their short positions on the futures sugar market, especially because the commodities in which they are long in – gas, corn ethanol and oil – show a performance of 16%, 13.5% and 12% in the year, respectively. The funds are not at all worried about their short position in sugar.
Over the last eighteen years, the most traded average price of the daily closings of the futures sugar contract at the NY exchange in the first quarter of the year has been higher than the average price traded during April in 2/3 of the cases. The average price of the first quarter this year has been 13.46 cents per pound.
Price recovery will come, but it will depend on the size of the sugarcane harvest in the Center-South (there is already talk it will be 570), the production mix which should be surprising (less than 40% of sugar) and the perception on the part of the producers that compete with Brazil that at this price level countries aren’t able to compete.
An attentive reader alerts us about what we said here late January about some mills that were making the hedge of ethanol using oil (Brent). We were starting to compile our data to observe the adherence there was between oil price traded on the foreign market and hydrous price. When someone uses an asset to hedge another, known as cross-hedging, he/she is subject to the risk of this adherence getting lost.
In light of the current market, simply having sold oil in reals to hedge hydrous wasn’t a good strategy. Even what we suggested – buy oil put and sell sugar call under the current condition – would just have expired with the premium of the call in the pocket, but it became inefficient to meet the goal of safeguarding value. It’s the old saying that goes: “those who decide can make a mistake; those who don’t, have already made a mistake”.
Registrations for the 30th Intensive Course on Futures, Options, and Derivatives – Agricultural Commodities are open. The course will be held on August 7, 8 and 9 in São Paulo-SP at the Hotel Wall Street on Rua Itapeva. If you plan on taking it, remember that spots are limited and in the last events they ran out 40 days before the course started.
The book “Derivativos Agrícolas”, written by me together with journalist Carlos Raices, is already available on Amazon Books, iTunes, Google Play, Kobo and Livraria Cultura.
Just log on to the following link: https://itunes.apple.com/br/book/derivados-agr%C3%ADcolas/id1294585521?mt=11. Good read!
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Have a nice weekend.
Arnaldo Luiz Corrêa
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