The lack of rain in the Center South not only has increased the energy price to historical levels but it has surprised the mills as well, turning the yellow light to the sugar market. Without rains, the sugar cane plant can’t obviously grow and the drought has already affected somewhat some producing regions in an irregular way. It is hard to tell with certainty that the damage is irreversible. The fact is that the problem exists and it could eventually be compensated (if there is enough rain ahead). In a rough calculation, people are already betting on a loss of 1 % to 2 % for next year’s crop. We will see.
The lack of rain is the main reason for the forceful surge in prices in the past Friday’s session. The NY futures sugar contract closed the week higher 50 points, or 11 dollars per ton, with Mar/14 closing the month of January quoted at 15.61 cents per pound. In the accumulated of the year however, sugar is the second commodity that has fallen the most, with a 4.9 % drop, trailing only wheat, which has lost 8.2 %.
The percentage of increase Friday, 4.14 % was the highest since July of 2012, when the market closed with 4.34 %. The bulls were a bit more excited therefore. After all, they have seen 70 % of the sessions closing lower in the last 50 days of activity. Anything is reason then to celebrate.
A mill from the Minas Gerais state mentioned to this writer that the rainfall index for their region in January is 400 ml normally. This past month it only reached less than 50 ml. In other words, the drought may frustrate the bearish dreams of those who already had seen a visit to the 13 cents per pound as certain.
According to Marcos Masagao, from the brokerage Futures Analysis, the average price of the funds shorts for Mar/14 is at 16.64 cents per pound and for May/14 is at 17.55. Based on Friday’s close then the funds have a non-realized profit if more than US$ 150 million. Maybe they are not in a hurry to repurchase their positions but it is not difficult to imagine that if the drought persists there could be a violent reversal from the current tendency. Just guessing here, I would say that around 30 to 40 points higher we could see things escalate not only affecting the funds (naked shorts to the tune of 11000 lots or so) but also those who sold call options with low volatility and now face the stunning increase of 6 % for the week (see below).
An indication of a change in perception, although subtle, is the market volatility. The 20-day average is now 19.15 %, while the 40-day is 17.04 % and the 60-day is 14.54 %. There has been a remarkable increase in the options volatility, which were indeed way too cheap. The providers of the on-the-counter options (OTC) should adjust the premiums so as to reflect the increase of volatility in the next sessions. Therefore, the protection becomes evidently more expensive. The 10-day volatility now for instance is 22.88 %. Everybody knew that the cheap price scenario one day would end. This makes the longs happy.
The correlation between the internal sugar market and the NY sugar market in reals is returning. In the last 50 days, the correlation between the two stood at 0.8600 (1 indicates a high correlation and 0 indicates no correlation). In other words, 86 % of the internal price of the sugar can be “explained” due to NY price variations in reals. This is an opportunity to think of a sugar hedge trading having ESALQ as a parameter, using NY.
The ethanol consumption indicates that the inventory between seasons will be narrow, keeping firm the prices of anhydrous and hydrated that today liquidate to the mills well above sugar for exports, at 40 to 80 dollars per ton of sugar equivalent.
This Friday marked the beginning of the year of the horse in the Chinese calendar. According to the experts (there is an expert for just about anything today) the horse brings lots of volatility to the markets and a commercial war between the East and the West. To those are afraid of wild animals, here comes the horse for a change.
There is a popular phrase that says that an empty mind is the devil’s workshop. Calm markets generate gossips worth of celebrity magazines. There is no factual basis regarding the news published by a certain commentary that a large company of the sector is experiencing troubled waters between its shareholders and the executive directors, with some mills of that group even deserting. Recently that same commentary swore that another mill from the same group had been sold to the Chinese. An executive of that company, alarmed, even started taking Chinese lessons, giving it up eventually. Some people…
The Demarest lawyers’ office, with the support of Archer Consulting, is promoting the seminar “Political Scenario and Economical perspectives for the Agro Business”. It will take place March 11th 2014, beginning at 1:00 pm, with the presence of the journalist and columnist of the “Folha de Sao Paulo” newspaper Reinaldo Azevedo and the economist and partner of the MB Associates Jose Roberto Mendonca de Barros, as well as Dr. Renato Buranello from the same office, Luis Carlos Correa Carvalho, president of the ABAG, Alexandre Figliolino, commercial director for sugar and ethanol for the Itau BBA group and finally yours truly. The event is free and registration is limited. Reserve your place via email at eventos@demarest.com.br
Have a good week.
Arnaldo Luiz Corrêa
