TWO DECISIVE WEEKS
After reaching a new high this Friday, the sugar futures market in NY closed out the week at 26.78 cents per pound for October/2023. The high we saw in April (27.41 cents per pound) was surpassed at the last trading floor, which traded at 27.59 cents per pound. In the weekly accumulated, October/2023 appreciated 47 points (10.36 dollars per ton). On average, the contracts corresponding to the 2024/2025 crop of the Center-South went up 75 points (16.50 dollars per ton), practically the same appreciation of the next crop.
The high seen on the sugar market in NY over the last three weeks goes beyond the simple fundamentals. The participation of the funds was undeniably the major driving force that rose prices by 450 points if we take the 23.08 low in August/2023 to the 27.59-cent-per-pound high this Friday.
Such a dramatic increase can create significant disruption in the cash flow of companies. 450 points of fluctuation over such a short period of time represents 100 dollars per pound of traded/hedged sugar. The impact of such fluctuation at a physical position of, say, 200,000 tons – to be modest – in the book of a trading company means the cutting of US$20 million out of the cash flow.
Over the past weeks, there were rumors that a trading company had decided not to accept – for a period of time – futures exchanges coming from sellers, in this case, mills, to fix the price of their commercial contracts. Accepting more short futures contracts into their books could increase the risk of a margin call, especially if market prices remained high, which did, in fact, occur. This is a strategy of financial protection adopted by companies that have already faced similar strains in the past. Overlooking this kind of measure can negatively affect the financial stability of the company and, as a ripple effect, the market health itself.
The price increase also scared those who were short out-of-the-money calls just to capture the premium. I will explain: when the sugar market was, say, at 23-24 cents per pound, some traders sold options way above the market to capture premiums, especially when they thought that the market had reached exhaustion. They sell short and hope time will work in their favor, dwindling the value of the calls until it turns to dust and they finally pocket the premium in its entirety. Lots of people do that. This is the daily routine of those who trade on this market.
In fact, two weeks ago the total volume of calls for October/2023 at an exercise price between 26 and 29 cents per pound was close to 50,000 lots. Early this month, when the market started getting into the level of 26 cents per pound, until then treated as being unlikely by the shorts, the water started getting up to the waist. And then, those who were short started rolling over the calls to farther maturities. We could see that based on the open position many rolled over to 27 cents per pound. Others just bought futures to zero out the delta of the short options.
The purchase of futures to mitigate the short calls adds more fuel to the fire. The market goes up, and what do those who were being affected by the flames of the margin do? It was clear in the open interest published by the NY exchange that at least 5,000 calls at the exercise price of 27 cents per pound were bought this week. This can be a strategy to diminish the impact of the margin calls.
The options expired this Friday, and it was no coincidence that the market closed out practically at the low of the day after having traded at the 27.59- cent- per- pound high. In our view, this was a market adjustment after those needing to hedge had done so.
The daily average volume traded in NY over the last fifteen days was 194,000 lots, compared to 96,000 lots over the previous fifteen days. This can show a trend related to the funds. How about the fundamentals? They help to support all this narrative. But we must question how significantly the market’s fundamentals have genuinely changed in three weeks, without any embellishments, to justify a 450-point surge. To be seen.
UNICA published the crushing volume of the second fifteen days of August. The accumulated total is 406.65 million tons of sugar, 10.9% above that of the same period last year. Considering what the accumulated of the second fortnight represented in relation to the total crop over the last ten years, our estimate is – bearing in mind the climate issues that usually destroy reputations – that the total production of sugarcane of the 2023/2024 crop can reach 625 million tons. According to some analysts, the Center-South cannot crush such volume.
The non-index funds according to COT (Commitment of Trades), published on Friday by the CFTC (Commodity Futures Trading Commission), based on their position last Tuesday showed a small increase of 4,355 lots, totaling 192,049 long contracts now.
Over the next two weeks, it will be vital to observe whether the funds will be able to support the market at the current levels or not. The market faces two critical uncertainties: the amount of sugar that will be physically delivered when the futures contract of October/2023 expires on September 29 and the speedy pace of the crushing in the Center-South, which has been setting new records constantly.
Some food for thought for the weekend: we are faced with a scenario where we will possibly have the greatest sugarcane crop of the history coexisting with the highest prices of the last twelve years. It is worth noting that the previous highest quotation was recorded on October 25, 2011, when NY peaked at 27.70 cents per pound. This combination sounds incoherent, taking into consideration the fact that something might be out of sync in this scenario.
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
