Sugar: 2014 Fundamentals Change

The sugar market in NY recovered this week closing higher for the week in all months traded. From Oct/13, which closed Friday at 16.79 cents per pound to Jul/15, the variation was practically the same, around 30 points higher or 7 dollars per ton.

Real Devaluation
The drop in sugar prices in the international markets (which has an accumulated loss of 13.75% for the year), despite the real devaluation that mitigates this impact for the Brazilian mills, does not necessarily have the same effect in the sugar producing countries that compete with Brazil. For example, the real has suffered a devaluation of almost 11% since the beginning of the year, while the Indian currency has had a drop of 8% and the Thai currency a little less than 1%. For the mills with no liabilities in dollars, the effect of the exchange devaluation almost compensated for the drop in sugar prices in the international markets.

In reals, the mill that liquidated on the last day of 2012 at an equivalent of R$ 784.50 per ton ex-mill, did negotiate its sugar last week at R$ 755.00 per ton, a negative impact in reals of only 3.75%. On the other hand, our main buyers, China, Russia and the Middle East have had an appreciation or no change in their currencies (China saw an appreciation of 3.75% and the other two were unchanged). For China, which has an internal consumption with prices above the international markets and moreover can buy goods paying with less local currency for the same quantity dollar wise, we should see an increase of sugar purchases by its refineries.

Lack Of Strength
We are still far away from a reversion in the market and as mentioned here ad-nauseum, the market does not seem to have strength to go up due mainly to the tepid demand and the international scenario itself, which affects commodities. However, some aspects begin to gain strength regarding the support of the current prices with a slight upside bias. This careful approach, void of euphoria, is needed because the constructive scenario should be seen farther ahead, and not necessarily at this juncture. Let’s see it: The Center-South has a production cost, as per the Archer Consulting model, without financial cost, of 15.14 cents per pound, a lot less of the Australian costs (15.60), India (21.50), UE (between 20.00 and 21.00) and Thailand (16.20).

“Well, we have a surplus” say the analysts. No doubt we have one, but the scenario ahead comparing the production costs of these mentioned countries with the current international markets, is not stimulating to production and it is even stagnating it. On the other hand, low prices and too close to production costs give a good incentive for consuming countries to begin making, quietly, strategic inventories anticipating an eventual change in the market mood.

And here we may see an ingredient that may bring a good dose of volatility to prices in the next few years. The global consumption, as we know, has grown at an average of 1.6% per year in the last five years and Brazil should continue to be the main supplier, besides supplying the internal market that consumes voraciously 12 million tons of sugar equivalent. In the fuels market, Brazil reached the consumption record of the last 12 months in May/13, burning more than 50 billion liters, growing for the year 6%, but in the five-year average it has grown 7%.

The Ethanol Component
The growth potential for the ethanol consumption to attend to the demand of the Brazilian fleet of light vehicles would demand at least 35 to 40 million tons of additional sugar cane every year. In three years, for the 2016/17 crop, the Center-South will have to produce 700 million tons approximately to attend the potential demand for ethanol and keep the share in the sugar international markets that it possesses today and still supply the vegetative growth of the internal consumption of sugar. Will it be able to? It will be very difficult. The Center-South would have to build 20 more mills with an average crushing of 5 million tons, an investment estimated in US$ 13.5 billion.

Without defined rules for fuels price formation, it will be hard for us to find investors to put money in a business that has the prices of a competitive product controlled by the government and that has its own product as part of a sector that receives little attention from the same government.


The conclusion is that will grow more sugar cane but still below the needed demand. The surplus globally will be absorbed by greater imports, consumption and/or inventories formation in Asia and the diminishing of the production in India and Russia. The current market discourages the growth in production in countries where we see the production costs area above the international prices. The Center-South is almost at its maximum capacity if production (600 million tons), there is no room for miracles. The prices in the international markets will have to go up.

Timeframe
When should this happen? I believe that after Oct/13 these perceptions will be more evident and the market will anticipate it and trade based on this change of fundamentals. There is also a combination of factors that will make this change to be explosive: The short funds have reduced their positions a lot less than expected and still carry a directional exposition of more than 4 million tons of sugar equivalent, the historical volatility is relatively low at 15.13%, in the last 20 days, 19.06% in the last 50 and 17.37% in the last 100 days. A sudden price increase may change this feeling and add more fuel to the fire. What can change this is only the dollar appreciating more in the markets, putting more pressure on commodities. Anyhow, I believe the price curve for next year will be towards 19 cents per pound if this reading of the picture that seems to be forming proves correct.

Have a good week