The futures sugar market in NY closed the week with the contract expiring in May/2018 at 12.65 cents per pound, a 19-point fall (a little more than 4 dollars per ton) against last week. The increasing production, both in India and in Thailand, together with the still-pending pricing volume on the part of the Center-South mills for the 2017/2018 harvest (which has been rolled over from previous maturities) are still hovering by a fine line over the head of the market, hurting the recovery of prices in NY for the short term.
Being the main cause of the current price unbalance seen on the futures market in our opinion, the delay in pricing strengthens the fall in NY even further than what the fundamentals could predict. For example, just look at how the selling price levels on the part of the trading companies (fixations of the mills) have fallen over a few weeks. In early February, when the funds repurchased part of their short positions, they did so between 13.60 and 14.00 cents per pound. In early March, the repurchases went down to 13.49 cents per pound on average. Today, if they get up to 13.00, a lot of people will take the opportunity and fix prices.
This is not like saying that the scenario should not be bearish. That’s not it. But, at the current price stage, when all the information about the fundamentals are already priced, one can see that there is a huge effort on the part of the analysts and some traders to adapt the speech to the prices traded on the market with the fundamentalist picture which – let’s face it – hasn’t changed much over the last fortnights.
This is normal behavior because we tend to look for explanations (or adaptations) to whatever we have difficulty taking in. And we adapt them to validate our argument. This occurs in high and low markets. All it takes is to search for what was said on the market when sugar prices in NY were at 10 cents per pound and at 36 cents per pound.
What is interesting as far as the behavior of the participants in any market is concerned is that, like every human being when confronted with losses, which is where those companies which did not fix prices are at now, the companies start seeking the risk, as Daniel Kahneman claims in his book Thinking, Fast and Slow. We have a huge predisposition to take more risks in adverse conditions. Do you want an example?
In August/September 2015 when the sugar market in NY was coming up to 10 cents per pound, a disheartened company with a downward price trajectory, ended up “buying into” the bearish speech of the Horsemen of the Apocalypse on duty and made a price protection assuring a minimum hedge value, but submitting to selling twice as much if the market hit 12.50 cents per pound. The company didn’t believe in 12.50 cents per pound since they were already 25% away from the current level and the despair made it take the risk. Three months later the market was trading at 16 cents per pound and it was twice short at 12.50 cents per pound. There were not enough tissues to go around to wipe so many tears. What lessons can we come away with from this decision-making?
There is no discussion here about how bearish the sugar market is due to the so-called surplus. What is being discussed is how bearish it can still get especially in light of the limited sugarcane production over the last eight harvests, without expansion, a lot of mills with low cash flow for renewal and a cane field that is getting old. On the other hand, the expected economic growth of 3.8% this year should increase the sales of light vehicles to more than 2 million units (which will consume at least 1,000 liters per year), in addition to the increase in fuel consumption which usually grows beyond the GDP and can add to the yearly consumption of more than 3 billion liters. The domestic sugar market can warm up since the industrialized food consumption slowly starts to reach pre-crisis levels.
We have to cross an immense sea. The funds are in no hurry to settle their short position of more than 162,000 contracts which should be generating an unrealized profit of almost US$180 million. There is still a lot of pending fixation which limits price recovery for the short term. Petrobras is not passing on the price traded abroad entirely (the last value released by them shows R$1.5879 per liter, when it should be, according to our model, R$0.2000 more expensive).
Fixing raw material price can be an extremely successful strategy along the price curve for the industrial consumers. Speculatively, the put sale at 12 cents per pound and the call purchase at the exercise price of 15 cents per pound for October/2018 can be good insurance for any black swan that decides to take flight.
Some readers found the fixation percentage of the mills of 42% for the 2018/2019 harvest, published here last week, high. Honestly, I did too. As we don’t interfere in the model, we will have to check all the variables and try to find out the reason for the distortion. We went through a similar situation some years ago and we solved the problem by isolating the trading months by year-harvest decreasing eventual contamination. We are working on it.
Next Wednesday, March 21, at the Hotel Meliã Jardim Europa, starting at 8:30 in the morning, the VBSO Advogados, and B3 promote the Seminar on Agribusiness Challenges – Law and Economy. The event, which has the institutional support of Archer Consulting, is free of charge and the registrations should be made by email: rsvp@vbso.com.br
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Have a nice weekend.
