The week has been shortened by the Thanksgiving holiday in the USA. On Friday, the sugar futures market in NY closed out the session at 12.95 cents per pound. NY has finally managed to go over the 13-cent-per pound barrier, which hadn’t happened since early August. As the real devalued over the week and closed Friday with the dollar at R$4.2400, NY reached the equivalent to R$1,265 per ton (R$30 better per ton in the week).
The National Oil Agency released a report showing that the fuel demand is up. The consumption of the Otto Cycle in October/19 increased by 5.9% against October/2018. Hydrous ethanol was traded at R$2.0720 tax-free per liter ex-mill, being equivalent to the sugar in NY with a 175-point premium.
On a day with weak volume at the exchanges in the USA after the holiday, the energy market melted with losses that came to 4% in oil and more than 6% in natural gas. There is no confirmation that the losses on the energy market are related to the Black Friday discounts. Joking aside, analysts believe that 56 dollars per barrel in the WTI is a buying opportunity and the fall will have an expiration date.
Still, due to the holiday, the CFTC (Commodity Futures Trading Commission) has not released the Commitment of Traders. We are in a limbo, but experienced brokers in NY, loaded with their portentous crystal ball, believe that they are still short by 70,000 lots. That is, they have reduced that huge short position by 100,000 lots and moved the market by 100 points only. However, let’s keep an eye on the open position of the calls at an exercise price around 13.00 cents per pound for March/2020. They can be a powerful tool for market heating because the total number of open lots between 13.00 and 13.50 is almost 60,000 lots.
Speaking of options, over the week a huge buying of puts at an exercise price of 12.50 cents per pound and maturing in March/2021, whose premium was traded at 0.50 cents per pound, has been commented on. Apparently, the equivalent to 100,000 tons of sugar was traded under these conditions to protect the production of a mill. Looking at the forward curve of real against dollar, the value of protection was about R$1,210 per FOB Santos ton equivalent. Not bad if we take into account that the cost of production of many mills in the Center-South is close to R$1,000 per ton (cash cost) FOB.
As we know, the volatility of the sugar market is at the lowest level of the last five years – something around 17-18% yearly. Whenever something like this happens on the options market, that is, when the volatility is low, it is a great opportunity to buy protection, because insurance (the option premium) is cheap. In fact, its price is reasonable because the sugar market has been squeezed in between a restricted price range for a long time already and the traders, who are sure that prices will not change significantly, sell the extremities that they believe won’t be surpassed.
There is some dysfunction in the exchange market which must be looked into carefully. The real went against the trajectory everybody was expecting. A few weeks ago people were betting we would close out the year with the American currency at R$3.8000. In the meantime, the pre-salt auction had anticipated the vigorous injection of foreign capital devaluing the dollar and making some banks get ahead of the auction and heavily sell the American currency betting on the real appreciation given the mentioned action. The frustration with the pre-salt auction sped up the coverage of short positions and also scared away the trading companies that had NDF (Non-Deliverable Forward) operations maturing in the short term. An avalanche of purchases exceeded the value of the American currency and now they are all licking the wounds.
To make things worse, the expectation of maintaining the American interest rate appreciated the dollar against the currency of the emerging countries. The low-interest-rate in Brazil also discourages the dollar inflow in the country because the spread isn’t worth the political and legal risk coming from the erratic decisions we have seen – so, another undigested ingredient in the decision-making process.
Higher dollar, however, makes oil import in real more expensive and favors the arbitrage of the hydrous ethanol with sugar for export. That is, even pressed by a weaker real, the sugar contract in NY, which should drop because the mills obtain more real when fixing their commercial contracts, is backed up according to the hydrous counterpart, which has room to go up due to the higher price of Petrobras in gas import. The market is getting interesting. We bet on 14 cents per pound in March/2020 at the latest or in the first two months of the year.
The first Archer Consulting estimate of the volume of pricing of the commercial contracts of the mills for the 2020/2021 harvest, calculated on October 31, 2019, shows that 3,258 million tons of sugar had already been fixed up until that date. In the last crop, over the same period, the pricing volume was 5,499 million tons of sugar. If we assume that Brazil should export 19.5 million tons of sugar next harvest, so 16.71% of the export volume of the harvest would already be fixed.
The average calculated value of the fixations is 12.87 cents per pound, or 52.64 cents of real per pound, without polarization premium, equivalent to R$1,209 per FOB Santos ton (with polarization). Last year, over the same period of time, the average value of the fixations was 13.10 cents per pound (without polarization), equivalent to R$1,170 per FOB Santos ton (with polarization). The smaller volume of fixation in comparison to previous years is due to the fact that the mills delayed the fixations of the 19/20 harvest, putting off the decision to fix 20/21. The price in real per ton of the 2020/2021 harvest is higher than that of the previous harvest because of the weaker real.
The XXXIII Archer Consulting Intensive Course on Futures, Options, and Derivatives has been set for March 24, 25 and 26, 2020 at the Hotel Wall Street, on Rua Itapeva, in São Paulo, SP. Don’t miss it. Join more than a thousand professionals who have already taken it.
Have a nice weekend.
Arnaldo Luiz Corrêa
