IN THE CORNER OF THE RING
The sugar futures contract expiring in May/2023 in NY closed out the week shortened by the Brazilian holiday Friday at 24.83 cents per pound, or 73 points above the previous week, amounting to a little more than 16 dollars per ton.
The devaluation of the real against the American currency – 2.88 % (it closed at R$5.0496) in the weekly accumulated, resulted in an increase of R$179 per ton of appreciation in the NY sugar price. The arithmetic average of the values found for the 2023-2024 crop (May/2023 to March/2024 closings) reverted to R$2,888 per ton. For the 2024/2025 crop, the increase was R$98 per ton and for the 2025/2026 it was R$59 per ton.
The May/2023 contract was trading at 25.63 cents per pound at Friday’s session, and then closed out the week at 24.83. This has been the highest price in cents per pound since March 26/2012, so 11 years ago. On that day, however, the dollar was trading at R$1.8175 and the value found then, converted into real and adjusted by the inflation rate, amounts to R$2.258 per ton FOB today – R$650 per ton below today’s closing (May/2023 amounts to R$2,907 per ton).
This is only to say something – today’s value is extraordinarily high. It has occurred in just 2.3% of all the events found from 2000 up to now. I will say it again: just 134 times at the last 5,843 sessions. We can make it easier and say that not taking advantage of these prices means you have a 97.7% probability of doing the wrong thing. If you don’t want to take a chance, at least buy a put. The Swiss philosopher Henri-Frédéric Amiel used to say that “the man who insists upon seeing with perfect clearness before he decides, never decides”.
That the market is acting under strong panic is obvious. There are several extra-fundamental aspects that make the market go overboard on the dose of the so-called supply and demand imbalance. The funds are the lords of this market with a little help of the huge percentage already fixed by the mills. Therefore, without a counterpart of sellers, it’s very easy to increase prices with smaller volumes. And nobody is saying they won’t continue on this journey.
The cash-flow factor contributes to the abrupt fluctuations we have been seeing. I will explain. The margin calls of short positions hurt the companies. Since early March, NY has had a fluctuation of about 123 dollars per ton, which represents almost 25% of the value of the fixed sugar. That implies a huge cash withdrawal for the trading companies, mills, institutions which offer hedging operations, among others. The immediate consequence of this situation will be restricted credit on the part of these agents in the operations of the mills and end consumers. There are a lot of people bleeding. Thursday’s session clearly validated this.
Markets with great daily fluctuation are showing this uneasiness. Over the last two years, the daily fluctuation (maximum price minus minimum price divided by the previous day’s closing) has usually averaged at 2.14%. On Thursday, the fluctuation was 4.72%, minimum of 24.19 and maximum of 25.34 cents per pound against the previous closing of 24.34. Something is out of context.
It’s worth noting that the months following May/2023 had a greater fluctuation, indicating that the funds are rolling whatever they can to the following maturities. While May/2023 went up 73 points over the week, July/2023, October/2023 and March/2024 appreciated 86, 91 and 88 points, respectively.
The markets go overboard on market highs and lows. Commodity is a market that usually stresses out when there is any sign of rupture in supply and demand. Those short or those that have to cover their physical needs of the product will stop the bleeding at any cost. Once the need is satisfied, prices go back to normal levels.
On the other hand, the funds are sitting on a winning position. Unless the NY Exchange adjusts the initial margin to avoid great fluctuations (something unusual on the part of the ICE), which implies the funds have to deposit more money for the positions they have, nothing points to them calling a truce. They do what any boxer would do with the challenger in the corner of the ring getting punched from all sides. And they must think, “Let’s see how long they (those who need to cover) will take it”.
The more focused and disciplined mills driven by the present uncontroversial reality, that is, the one with an extremely profitable price vis-à-vis a smaller production cost (more sugarcane will be crushed) speed up the fixations of export sugar of the 2024/2025 crop. Three strong arguments for this strategy are: first, the financial market is betting on an appreciation of the real against the dollar over time; second, interest rates should slack off in the second semester; third, current prices are craving for an increase in sugarcane production for the next crop with a possible price pressure on the foreign market.
It’s worth remembering that given the uncertainty motivated by so many exogenous factors, it’s prudent that the price fixation for the 2024/2025 crop comes with the purchase of an out-of-the-money call option. Those who followed the recommended strategy for the current crop have been able to add at least 65% of recent price increase since early March, easing possible cash-flow stresses and getting rid of those horrible strategies such as accumulators and hedges that double at a certain exercise price.
A few points that are worth being looked at over the next days: oil is artificially high due to the production cut headed by OPEC+. Most mills expect an increase in sugarcane production for this year (the smallest I’ve heard was a positive fluctuation of 7% against last crop); therefore, we can have a crushing above 600 million tons of sugarcane. It all depends on the rainfall and the crushing capacity of the mills. At these profitable prices, they will do their hardest to maximize production.
To read the previous episodes of World Sugar Market – Weekly Comment, click here
To get in touch with Mr. Arnaldo, write on arnaldo@archerconsulting.com.br
