Commodities Down, QE Slowdown Impacts Markets

The global macro scenario has been largely affected by the FED’s decision to slowly end its QE by the end of 2014, slowly drying the market and consequently causing a valuation of the dollar. Remember when Dilma and Mantega complained about the excess liquidity that overvalued the real and affected the Brazilian exports? Well, now the situation has inverted with many economists redoing their forecasts and putting the dollar at 2.30 by the end of the year. With that, we will have consequences in the GDP growth (downwards) and interest rates (upwards). And the brilliant minister thought it was just a breeze.

In NY, the sugar market closed the week lower. July '13 closed at 16.74 cents per pound, only 4 points lower than last week. The remaining months, however, had more pronounced drops to up to 51 points for the week (a little over 11 dollars per ton).

The production cost for sugar according to the model developed by Archer Consulting is R$ 33.3949 per bag ex-mill, without financial cost. For the anhydrous and the hydrated, the values are R$ 1.0887 and R$ 1.0451 per liter ex-mill, without financial cost. The better return continues to be anhydrous and the worst export sugar VHP.

The devaluing of the real which reached its lowest level of the last 4 years may have triggered some companies to take advantage of this overshooting (acceleration of currency devaluation many times moved by higher risk perception) by hedging part of their production for the next crop year, due to the high values when converted to reals. If there was liquidity for one to do a NDF (a forward dollar contract with a financial liquidation), fixations for the 2014/15 crop could be done at an average of 848 reals per ton at the mill against a production cost of 668 reals per ton (27 % above the production cost therefore).

With this fact, for the mills, despite the drop of sugar in the international market, the real devaluation more than offset the lower dollar revenue. The prices in reals obtained with Friday’s closing price of both sugar and dollar, are the highest since January 24th, almost 5 months ago. To obtain the same liquidation today, with the dollar rate of a month ago (2.0382), NY would have to close 200 points higher! The devaluation has also been good for the funds since being short 95000 lots (4.8 million tons equivalent) they had the benefit of the macro scenario and may portray themselves as brilliant strategists. For the mills indebted in dollars, the week increased their burden.

A weaker real means that Petrobras imports more expensive oil, worsening their cash flow and damaging even more their financial situation and this is coupled with the zero possibility for that company to pass their higher costs to the consumer due to the current political climate. To minimize this problem, the solution is to use more anhydrous ethanol in the mix, build a strategic inventory of hydrated and, without anyone listening to us, even use a gasoline of a lower quality (and lower price) for the mix.

For the mills, little is changed when we have a higher dollar in regards to their ethanol production, since we assume that greater devaluations will impact the sugar quotes in NY in such a way that the values received in reals in the end are almost unchanged. What should impact ethanol is the greater demand caused by what was explained above. Therefore, we believe that the mix for ethanol will be maxed out. The last estimate by Archer for the 2013/14 crop shows 45.6 % of sugar and 54.4 % for ethanol. This may change now. Every percentage point of reduction of the mix in favor of ethanol reduces the sugar production in approximately 800.000 tons.

The commodities experienced a bloodbath this week. Sugar was somewhat OK all things considered, with a reduction of only 0.7 %. We also had soybeans falling 1.5 %, coffee 2.3 %, orange juice 3.4 %, oil 4.0 % and cotton 6.5 %. For the accumulated of the year, coffee and sugar lead the losses with 16.9 % and 13.0 % respectively.

The 9th estimate by Archer Consulting indicates that according to our model, up to June 1, 2013, the mills had fixed 15.8 million tons at an average price of 18.50 cents per pound. If we estimate that Brazil (and not only the Center-South) should export around 26 million tons, this means that 61.03 % of the sales for the 2013/14 crop have been fixed already.

In the political field, the (un)government of Dilma begins to pay the bill for its arrogance and superior attitude. The manifestations occurring throughout the country although still without a definite explanation for them, show that the population is tired by the indifference of the political class at all levels. What is being stolen in this country from the lowly workers to the higher echelons is something to be deplored.

The prevalent impunity due the morose judicial system makes it easy for a legion of crooks to keep stealing at will knowing that they will never go to jail. This distorted behavior is reflected in the day-to-day operations of the local companies and their management in dealing with the difficulties imposed by this group of people. Who wants to go ahead and invest under this scenario?