Market players are getting increasingly uneasy over the trajectory that the sugar price on the international market might take when the funds start liquidating their huge long positions. Although sugar fundamentals seem to be constructive and keep the same favorable scenario for next year, in the light of the sugarcane harvest size in the Center-South, which undisputedly points to less than 600 million tons, we cannot fool ourselves.
We’re facing the hard decision about the right time to fix prices. That comes with the inseparable fear that if the market falls and there is no fixation, we will be left with the feeling of having missed out on what could have been a golden opportunity to supply the company’s cash flow, mixed with another opposing fear that having fixed prices and if the market keeps going up, it might look like we rushed our decision-making process. It is at this level where rationale gets contaminated and develops a severe inner conviction – that prices will go up indefinitely – despite the opposing evidence surrounding the scenario. This obsession over consistently high prices is almost like a disease.
By mid-September last year, therefore, a little over a year ago, the futures sugar market in NY (October/2015) was trading to the equivalent of R$1,000 per FOB ton, with polarization premium. At many mills, the order coming from above was to fix prices if the market traded “over the R$1,000 per ton”. And that was the case. Just to remember and put the analysis into the historical context, in September 2015 it had been over 1,000 days since the sugar market had traded the equivalent to R$1,000 per FOB ton. That had happened on October 9, 2012 (NY at 21.47 cents per pound and the dollar at R$2.0364).
Today, the cost of production of VHP sugar in the Center-South is around R$1,000-R$1,050 per FOB equivalent, with polarization premium, while March/2017 is trading over R$1,680 per ton. How many times over the last 10 years has VHP sugar traded at the NY exchange at a price that converted by the Brazilian currency came out 60-70% above the cost of production? In two occasions – the first time in January 2010 when the premium over the production cost went over 105% and evaporated two months later; the second time in February 2011 when it went over 90% and evaporated three months later. That is, premiums do evaporate.
Rarely, that is, less than 2.5% of the occasions, has the market traded with an over 72% premium. Does that mean this scribe has turned into a bear overnight? That’s not it. I’d just like to show that no market goes up indefinitely and that building a solid price average greatly contributes to the company’s health and longevity. It’s better to be safe than sorry. It’s highly unlikely that a price fixation in real per ton both for the 17/18 and for the 18/19 harvests, above R$1,700 per ton, can go wrong. So, although I believe prices in cents per pound can go up a little further, in real per ton, it’s an opportunity that lacks arguments for someone to pass up on.
There are alternatives for those who don’t want to fix everything now. At least a fence (buying an out-of-the-money put and sell an out-of-the-money call) should be put in the books, just in case… Over the last five years, NY has traded at 18.58% above the cost of production on average. And at two-thirds of all sessions over this same period the return has been between – 2% and +38%.
The funds should be “hold responsible” for at least about the 300 point-high above what should be the standard we had foreseen before. Keep in mind that we said here that our initial goal for the last quarter of 2016 was NY trading at 18 cents per pound.
The fourth estimate of price fixing by the mills on the futures sugar market in NY for the 2017/2018 harvest shows, according to the model developed by Archer Consulting, that up until late September 2016 7.17 million tons had already been fixed (27% of the estimated exports). The average price found was 16.88 cents per pound. In previous harvests, the maximum percentage of accumulated fixation until September was 19.72% in 2014/2015. The highly remunerative prices make the mills fix earlier. The percentage doesn’t get any higher because there is a great number of mills which can’t fix their prices due to credit restrictions. The average adjusted value of fixation, taking into account the NDFs (non-deliverable forward) is estimated at R$1,528.74 per ton, or 66.55 real per pound, without polarization premium.
Monday, October 17, I will be at the 16th Datagro International Conference on Sugar and Ethanol in São Paulo at the Hyatt in response to an honorable invitation by my dear friend and expert on the sector, Plinio Nastari. I will be the moderator for the very current panel discussion on “How long will the price cycle last? Supply-Demand Balance, Energy Market, and Speculators”. If you happen to be there, it will be a pleasure to see you again.
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Enjoy your weekend.
Arnaldo Luiz Corrêa
