In all our comments over the last months, we have said we were pretty constructive about the sugar price trajectory on the foreign market, and that only one thing was getting to us and that could curb the long-awaited recovery – should there be the simultaneity of the real appreciation against the dollar and the drop in oil price on the foreign market. This combination would decrease the parity of ethanol against gas (cheaper in real) and make way for greater sugar production and, therefore, drive the price of the commodity down.
Actually, the real has appreciated against the American currency and oil has plummeted on the foreign market. And sugar has also melted – we have come to the lowest price since last May 23, when NY hit 11.42 cents per pound. Friday’s closing, with October/2019 at 11.59 cents per pound was 71 points (more than 15 dollars per ton) below the previous week’s closing. If sugar fell almost 6%, Brent, RBOB and WTI Gas dropped between 6-7% in the week.
Having said that, can we conclude that the drop in sugar was due to the synchronization of these two events? No, it doesn’t look like it. What changed the market mood, or at least delayed its recovery were the two recent deliveries in New York and London.
July has made the lack of activity on the physical market, represented by the huge sugar delivery both at the New York Exchange and the London Exchange, widely known. Nearly 800 thousand tons of white, from Thailand, and 2.1 million tons of raw sugar delivered in NY, primarily from Brazil and Thailand.
There is a huge alligator’s mouth between the sugar and ethanol prices. This Friday, hydrous was being traded at R$2.0700 per liter plus tax, which is about R$1.6900 per liter at the mill tax-free. With the real trading at R$3.7480 and NY closing at 11.59 cents per pound, selling hydrous represents a premium of 260 points above sugar in NY for the mill.
Discrepancies occur in any market and they are opportunities to make money. Right now, the mills should maximize hydrous production, sell it on the spot market and buy out-of-the-money calls in sugar. In a NY market response, which will come (see below), they will make a lot of money. The fair sugar price today is 14 cents (equivalent hydrous price), so a 14-cent call for March is a good thing.
Making money, however, requires discipline, knowledge and a lot of work. Delegating these opportunities to OTC providers means sharing a great part of the cake and losing the low volatility the market has shown. For example, a São Paulo mill, some months ago in a report published in the newspapers, stated having built a protective structure against negative variation of ethanol price using the futures market and oil options. This tool is called cross-hedging, that is, the risk of an asset (ethanol) is neutralized by taking on a position in another asset (oil). Clearly, the risk traits of each one are different, but the correlation between the two assets assured that the position was made. In short, the company pocketed, according to people close to the operation, R$20 million. Making money is hard work, losing it is a whole lot easier. It takes neither practice nor skill.
The funds increased the short position by more than 27,000 lots. They must be, according to a Manhattan experienced broker, at 140,000 sold lots. The pressure has surely come from there, corroborated by the pusillanimity of the physical market. With bearish oil, it can be assumed that the funds might have bought oil protecting the position by arbitrating it with the sugar sale.
As said above, NY will eventually respond. Heard through the grapevine, market rumor has it that the frost damage was much more serious than it had been foreseen. There are people rushing to crush sugarcane before there is just fiber left over. Is that producer’s talk? I don’t think so – the information is coming out of several and trustworthy sources.
Staying short at 12 cents per pound seems to be worth it in the short term – this scribe will have to eat his words. However, I cannot believe, due to all these factors discussed at length over these months, that sugar will continue bearish at this level. Smaller ATR, sugarcane hit by the frost above what had been expected and pro-ethanol mix will stifle availability. When will this be seen by the market? This is the one million dollar question. I believe October will bring some news.
There are still 40 days to go before the 32nd Intensive Course on Futures, Options and Derivatives – Agricultural Commodities, which will take place on August 27 (Tuesday), 28 (Wednesday) and 29 (Thursday), 2019 in São Paulo, SP at the Hotel Wall Street near Paulista. Fifty per cent of the spots have already been filled. More than 1,000 professionals on the commodities market have already attended what they think is the best course on agricultural derivatives in Brazil. Don’t leave it to the last minute. The next one will be only in 2020.
Have a nice weekend.
Arnaldo Luiz Corrêa
