Sugar And Oil: Two Perfect Storms

The futures sugar market in NY had another one of those weeks the producers would certainly like to get out of their heads. October/2014, whose expiry date is this late September, closed Friday at unbelievable 13.78 cents per pound. Over the last 2 months, October/2014 has fallen more than 350 points to the despair of many Brazilian mills which still had a reasonable volume to be fixed against that month. You should thank the Thai for this. Until October expires, the horror show should go on.

It is a devaluation of over 20% during a two-month period, the highest one since the fire at the Copersucar sugar terminal when the market traded at 20.16, and then plummeted to 15.89 cents per pound two months later. On top of that, the market traded the minimum of 13.75 cents per pound, the lowest price since May 12, 2010.

The October/March spread which traded at 250 points is the highest traded over the last 10 years in absolute values. In terms of relative values, the highest one was on April 29, 2008 when May/2008 and July/2008 traded at 10.16 and 11.87 cents per pound, respectively, an embedded carry of 153.65% a year.

The overwhelming majority of the traders and commercial directors of the mills, as pessimistic as they could have been about the path the market had been taking for some time, is stunned at how fast and huge this decrease has been. A 52-month-long low is scary. The total lack of export demand the market has been experiencing, plus the fact that 2014 has been a particularly tough year for the trading companies, which have diminished their appetite for taking further risks and have naturally made them hold off on doing new businesses, makes for an unfavorable environment for the sugar-alcohol sector due to the lack of policy of a confused and extremely mediocre government. And to top it all off, there is the threat of a huge sugar delivery from Thailand - the perfect storm. Now all we need is for Dilma to win the upcoming election.

It’s too easy to talk about something after it has happened. That’s why we can’t forget that at the beginning of the crop year a drought was expected to happen, which came true; a sugarcane production well below the estimate happened but without a big impact; and a reasonable chance of El Nino, which did not come true. Sale fixations against the futures exchange in NY by some mills were postponed in the hope of better prices due to the materialization of the forecasts.

What many companies have taken away from this sugar melting in NY is that you do not fool around with risk management. When I was a trader, I was never too fond of falling in love with the position and I always try to send this message whenever I can. Murphy’s Law is always ready to be applied. And, as it asserts, if something can go wrong, it will. But nobody saw a 300-point melting in two months coming. And there is a trader betting that we will still see just one digit for October. It is amazing that this Bela Lugosi film setting seems to be never-ending. On the other hand, I see similarities between the market and present moods in relation to May/2010 when NY traded at 13 cents per pound and a lot of people said it would go down to 9 cents.
The other months have also devalued over these two months, obviously. March/2015 fell 263 points; May and July lost 225 and 187 points, respectively. Further down on the curve, March 2016 fell 117 points, for example.

Some news in the week has also contributed to adding fuel to the fire. Ethanol in Chicago has broken the support for long term at 1.8550 and practically opened the possibility for this ethanol to have Brazil as its final destination. Brent oil fell below 100 dollar a barrel, the lowest price over the last fifteen months. The perspectives that Dilma will be reelected have increased, which should be disastrous for Petroleo Brasileiro SA- Petrobras (NYSE:PBR) and for the transparency policy of fuel price formation, which is so important in order for the sugar-alcohol sector to able to draw more investments. As a result of the new situation in the election race, the dollar has skyrocketed and the stock exchange closed the week yet at another low for the sixth day in a row. The way things are going, in 2015, there is a big risk that we will miss 2014. It is all really discouraging.

Just so you know, the total crushing volume in the South-Central up until the second quarter in August, published by UNICA, shows a total of 372 million tons of sugarcane. For the past 6 harvests, the accumulated value until this period represented, taking away the extremes, 61.5% of the total volume of the respective harvest. If this happens again, we will reach 605 million. That is, if some fund is making this kind of analysis, it will certainly fail big time. Following the same criteria, sugar production would be 34.8 million tons and ethanol production 26.8 billion liters. UNICA, in its last estimate, presents a lower number – 3.4 million tons of sugar and 2.8 billion less ethanol.

Some readers questioned the number we published here about the increase in fuel consumption over the last 12 months, a total of 4.4 billion liters. Well, let’s take a look at them. For starters, the numbers are by the National Agency of Petroleum. The accumulated over 12 months between August 2013 and July 2014 is 11.8 billion liters of hydrous and 43.1 billion of gasoline C, a total of 50.58 billion liters. Therefore, the difference is 4.4 billion liters. If we compare this number with ethanol sales published by UNICA, we will make a conceptual mistake because the ANP number is the fuel consumption in Brazil and the UNICA number covers only the South-Central and includes non-fuel.