The NY sugar market closed Friday with May/14 trading at 18.01 cents per pound, higher 35 points or 7.72 dollars per ton. The remaining months showed an almost linear appreciation around 42 points or almost 10 dollars per ton. The non-indexed funds may be long to the tune of 100.000 lots according to a NY futures broker’s estimate. In other words, about 5 million tons of sugar equivalent are in the fat hands of the funds. The trading companies should have fixed this week another 21.000 lots (see Archer’s fixation number below). What we can gather from this week’s action is that the market is becoming more interesting.
However, like any good risk manager, you should give a special attention to the fact that the options volatility put a damper on the whole picture. The May/14 volatility (always looking at on the money options whose exercise price is the nearest the value traded in the contract) dropped to 25.9 % this Friday, compared to 29.5 % in the previous week. A 3.6 % drop in a week is very telling. It means that protections that should have been done in order to reduce exposure to risk have already been done. Therefore, the demand for insurance against price oscillations has cooled and the premiums as a consequence, have dropped. On the other hand, the options with expiration in Oct/14 and Mar/15 have gone up to 4 %. This means the market is extremely worried with the price trajectory for the second half of the year, since it may oscillate strongly as soon as the pressure (?) at the beginning of the Center South harvest wanes. Be attentive to it.
Another pertinent observation is that even with the futures sugar market in NY trading at the highest prices of the last 4 months, the liquidation amounts in reals per ton in the closing of the first traded month in the futures converted to reals as per the rate published by the Central Bank are still below the recent highs. This year, for instance, the highest value in reals per ton has been R$ 936.04 (with NY at 17.41 and dollar at 2.3438), below the average of Oct and Nov in 2013, where it stood at R$ 941.65 per ton. The average for 2014 is at R$ 865.13. Can it go higher? Yes, and it certainly will.
What can prevent NY to go higher then? A substantial devaluation of the real currency. Dollar at 2.6000 may push NY down to 15.50 while dollar at 2.3000 (almost reached this week) will have to push up prices in NY due to the arbitrage if the ethanol for the internal market and even sugar for domestic consumption. Therefore, we have a lot more space to go up than to go down. This does not mean that we will not continue to see price corrections, especially due to exchange rate fluctuations and changes in the macro scenario. One can even make a mistake on an entry long position built with the intention to ride the second wave of ascending prices, but it will cost a lot more to go short in this market with no coverage in the physical.
One more ingredient. If we look at the margin over production costs in the last 12 months, we will see that the anhydrous has been basically the only product that has shown a positive return over production costs. The hydrated has spent half of the past 12 months trading at prices below production cots. If we estimate the cost of the service debt of the mills at 15 % per year, being optimistic at that, the return of the hydrated and anhydrous justify an increase in the mix in favor of more ethanol. Less sugar then will be produced in this crop year.
The estimated volume of price fixation for sugar for exports of the 2014/15 crop, as of Feb 28th, according to the model developed by Archer Consulting, shows that 46.5 % of the sugar for export have been fixed at an average price of 17.33 cents per pound, without polarization premium. The average fixation price in reals per pound is 40.07 without the polarization premium and the average dollar rate obtained by the mills has been 2.3115 up to now.
Archer has divulged its first estimate for the Center South crop of sugar cane. The volume is 590 million tons of sugar cane (a reduction of 1 % in relation to the previous crop year), with a production of 33 million tons of sugar and 25.8 billion liters of ethanol. The reduction of the sugar cane volume estimated is due to the lack of rains in the producing regions, affecting in a decisive way the availability of raw material.
Have a good week.
Arnaldo Luiz Corrêa
