WEEKLY COMMENT – JUNE 21ST TO JUNE 25TH,2021
After last week’s debacle, the sugar futures market in NY closed out Friday with July/2021 at 16.98 cents per pound, recovering almost half of the 118 points it had lost the week before. Even with the price recovery, the appreciation of the real against the dollar just about erased any price improvement in real per ton this week. The dollar closed out at R$4.9300, appreciating 3%. July/2021 sugar appreciated 12 dollars per ton, just about the same value on average for the 2022/2023 (May/2022 until March/2023) contracts.
The guideline we have been prescribing, that is, fixing export sugar prices in real per ton and simultaneously buying out-of-the-money calls 200 points above the market, has worked. The market also seems to feel a greater burden over the short term (due to the little activity on the physical market) and greater strength over the long term. We believe, for instance, that future sugar prices for 2023/2024, especially if the post-pandemic world recovers vigorously, might go up 200 points (the average for Friday’s closing was 14.75 cents per pound).
Everything points to another one or two rather profitable years for the mills – international prices that, converted into real per ton, are well above the production cost for Brazil, but that can also speed up the recovery of other competitors, such as Thailand.
Agricultural commodities are cyclical and we must take advantage of the good moments. If we keep the domestic fuel pricing policy in line with the international parity, things should go smoothly. Ethanol should also have sustained and profitable prices, since if the domestic fuel consumption had kept its pre-pandemic growth, that is, expanding at a speed of 4% per year, the demand for fuel (Otto cycle) today would be 7 billion liters above what the covid-19 reality has imposed on us. Can you imagine its impact on sugar prices if today’s demand was another 7 billion liters?
The rosy scenario for future crops contrasts with the short-term scenario. The physical sugar delivery against July’s futures contract, which expires next week, should be small. The pressure suffered by the long contract holders caused the July/October spread go beyond 9% of carry per year. That is, those who were long got rid of the contracts quickly pressuring the spread. And they certainly did so because of a weak demand. The non-index funds liquidated more than 35,000 lots, according to the COT (Commitment of Trades).
In our opinion, the combination of these elements – weak demand and funds still holding a long position on a market whose carry is 9% per year – can be the trigger for a more aggressive fund liquidation. You should understand that when the funds roll over a long position from July to October, they are selling July and buying October at a higher price (9% per year). Funds usually stay short on carrying markets; therefore, you’d better be wary.
UNICA numbers showing less crushed sugarcane, but with an ATR way above the expected, end up cancelling out the expectation for a crop as small as rumored. It will be smaller, undoubtedly, but not much lower than the level that was reflected on the prices.
Reinforcing what we have been saying for such a long time already: we believe prices in real per ton over the short term will continue dropping and prices in dollars have room to go up from 2022/2023 on, with more emphasis for 2023/2024. We must watch everything around us (exogenous factors) that can hurt the blue and clear sky we are admiring now.
In our last comment on the strength we expect to see in the sector this decade – it all seems to show that we will have new entrances on the market. Actually, it has been like that for ages – greater weight to Asian companies whose participation in the sugar world market should grow at a fast pace. Due to the lack of room, we didn’t talk about the growth in Africa. The continent not only has high population growth rates, but its per capita income has also grown at the rate of 2.2% per year, doubling over every 30 years.
Some studies believe that given the smaller birth rate in large part of the planet, the Earth’s population should stagnate at around 9.5 billion people around 2045/2050, about more than 2 billion people than today. This additional number will come especially from Asia and Africa, and we should turn our attention to these two continents. The clean energy consumed in Africa represents 46% of the total consumed on the continent – mostly hydroelectric energy. The potential for energy consumption per capita is explosive: today’s consumption is less than 20% of what India consumes, for example. The larger the income is, the greater the energy consumption is.
Many bad things would have to happen for this expectation for a strong decade to peter out – only a perfect storm made up of several exogenous, climatic, political, exchange-related, institutional factors and who knows what else. Stay prepared.
Mr. Arnaldo Luiz Correa is the Director at Archer Consulting. He is a Risk Manager with an experience of almost 30 years in the agriculture commodities market.
To get in touch with Mr. Arnaldo, write on email@example.com