The sugar futures market in NY is holding out relentlessly and has been staying above 10 cents per pound. We don’t know whether it will be able to get its purpose, because the flood of bad news sweeps across the sugar market steadily – it won’t give it a break.
To make things even worse, the non-index funds have added more shorts to their portfolios and should now have more than 20,000 contracts sold weakening and dragging the market down below 10 cents. What held back the market was President Trump’s twitter during the week saying that he had talked to his Saudi prince “friend” and that he expected a cut in oil production by 10 million barrels per day; that was all it took to make the oil go up. Whether it will stay there for very long or not is what we will find out next week.
As for sugar in NY, it closed Friday with May/2020 at 10.35 cents per pound, equivalent to R$1,265 per ton FOB Santos, which represents a weekly negative variation of 16.50 dollars per ton while in reals there has been a drop of only R$35 against last Friday – the real keeps melting.
If a mill price its export sugar today for the 2020/2021 crop considering the NY contracts which represent the Center South crop and using NDF (Non-Deliverable Forward), a currency contract with a financial settlement, the average would come to R$1,300 per ton FOB Santos. If it is for 2021/2022, the average goes up to R$1,420 per ton. This gives us all the more reason to understand that the sugar futures contract in NY will continue pressured as long as it shows profitable margins for the mills, considering that now they will have to produce/sell/price more sugar against the exchange.
The two largest fuel suppliers in the country have declared Force Majeure on supply contracts of anhydrous and hydrous ethanol which they have signed with several mills. As if the situation couldn’t get any worse for the producers, with the collapse of sugar price on the world market followed by the melting of the oil price, it’s better to think about the subject again. Over the 45 years this week that I’ve been working in the commodities market, I have to confess that this is the first time I’ve seen such a dramatic situation like this one. As a renowned broker in NY, known for his satirical mood, has put it, “it’s said that it is always darker before dawn, but right about now the market needs a flashlight”.
We all ask several questions that cannot be answered. How long can oil stay below 30 dollars per barrel? How long will the small businesses in the USA, linked to the shale gas sector and whose production cost is way above the oil market, be able to hold out? How many corn ethanol projects in Brazil will have to be shelved due to the ridiculously low price of sugarcane ethanol on the domestic market? There are lots of variables which over the next months when this pandemic is wishfully stopped and the world gets back to normal, can affect the energy supply in the long run.
However, let’s forget the long run, because as Keynes said, “in the long run we all gonna be dead”. But the correct scenario for the energy market doesn’t light up the yellow light anymore, drawing the attention to the mills’ health, but it lights up a red light, flashing and setting off a strident siren alerting that the current hostile environment can declare – this year – the death of a lot of mills which are already on life-support. It wouldn’t be totally unexpected if up to 5% of all the sugarcane to be produced/crushed this year weren’t processed due to an absolute lack of financial resources of some already agonizing companies.
Overall, the start of every crop year is the time when mills sell the produced ethanol and offset the expenses for the crop. Low fuel demand due to the social isolation and the declaration of force majeure in contracts with suppliers should make up an unprecedented cash flow bottleneck. Credit line renewals, increasingly scarce now, will demand more contractual guarantees and restrictive clauses (covenants).
We have just run a model whose purpose is to predict what the minimum sugar production volume we can expect from the Center-South for the current 2020/2021 crop is. The model interweaves the several market variables that affect the decision-making process, be it scientific or empirical, which determines how the mills can eventually behave in choosing the production mix. The variables include the most evident ones: sugar price in NY, exchange rate, price of oil, gas, hydrous and other less obvious ones like the discounts on ethanol sale due to the financial circumstances of each mill, the desired margin by the mill, among other factors.
We have divided the mills into three large categories. The first category is the mills with low production cost which have adequate financial management, risk management skill and competence in negotiating commercial contracts. The second one is the mills whose production cost is within the sector average, has both an average financial and risk management and needs to be more aggressive occasionally in order to put its product on the market. The third and last category is made up of those mills whose production cost is in the last quartile, has impaired financial management and almost non-existent access to risk management in addition to offering more attractive discounts for the buyers.
So, according to the model, Archer Consulting expects a minimum sugar mix of 46.8%, which should increase sugar production for the 2020/2021 harvest to 35.8 million tons of sugar, a volume 35% higher than the last harvest, which was 26.5 million tons of sugar.
The mills’ debts, according to the Archer Consulting estimate at the end of February 2020 was R$104.81 billion, a little more than 16.6% above last year’s same value.
Nassim Taleb (author of the book Black Swan) said in an interview to a TV station in the USA that the coronavirus wasn’t an unpredictable event, a prerequisite for it to be called black swan. “I get angry when people call this pandemic black swan. What we saw was a white swan, because there are no excuses for the large corporations and government authorities not having prepared for this kind of event since today, we travel much more and pandemics will happen more widely”.
WE MADE A MISTAKE: Last week we commented that there was a supply of hydrous ethanol sale, without buyers, at R$1.7000 per liter tax-free. An alert reader caught our fault. Actually, the offer was R$1.7000 per liter with taxes, which means that the equivalent value in sugar was at least 180 points worse.
Have a nice weekend and remember – STAY HOME.
Arnaldo Luiz Corrêa
