The Sugar market is one of the most volatile commodity markets. Sugar has made four moves of plus or minus more than 50% since the beginning of 2010. Sugar touched .36 cents per pound this February. This was the highest sugar futures have been since 1980 when they reached nearly .45 cents per pound. Currently, October sugar futures are around .28 cents. I believe the fundamental supply factors in this market are set to drive sugar down to a more normal valuation around .16 cents.
Sugar prices have generally rallied this summer based on four primary factors. First of all, there have been logistical issues in Brazil’s harbors. Brazil is responsible for nearly half of the world’s sugar production. Brazil is also a major exporter of soybeans, cattle and other agricultural goods. In fact, agriculture is responsible for 20% of their labor force compared to less than 1% here in the U.S. Major snafus in the harbor construction projects currently under way caused delivery tightness in the March sugar contract and contributed to the market’s peak in February.
The second primary contributor to sugar’s rally has been the refining spread. This is the difference between the price at which raw sugar can be purchased and the refined sugar can be sold. This spread advanced to more than $160 per ton which, attracted significant sugar purchases for delivery to refiners. This is similar to the temporary conditions we discussed in February of the crude oil crack spread that drove gas prices higher even as the price of crude oil declined.
The competition for sugar delivery also made its way into the ethanol market. The sugar based ethanol production of Brazil and other countries is far more efficient than the corn based ethanol industry in place here in the U.S. However, just like here in the U.S. food based ethanol production pits the forces of hunger and fuel against each other. Therefore, rising crop prices coupled with rising fuel prices combine to tax individual households and define the upper boundaries consumer demand.
The final push in upward sugar prices is more persistent. The growth in the economic viability of developing third world countries has led to increased sugar consumption. Better food and a more varied diet are typically the first splurges for a rising standard of living. The growth of purchasing power overseas will continue to fuel this trend and will place a higher floor on sugar futures prices in the years to come.
World sugar production is always volatile. Over the last 20 years, the annual surplus or deficit between sugar consumption and demand has been split nearly 50/50 on an annual basis. This year it looks like there will be a significant sugar production surplus. Reports from Thailand, India, Brazil, Europe and Russia look very favorably towards large harvests. The shipping issues in Brazil have been figured out and they are also reviewing the possibility of cutting back ethanol subsidies. Furthermore, the market inefficiency of the refining spread has been fully exploited and is now back to normal levels. Thus, the supply side of the sugar market looks bountiful.
Technically, the remaining long positions appear to be held by small traders and Commodity Index Traders while commercial traders are actively selling their forward production at these prices. This leaves the market susceptible to a sell off as CIT’s and small speculators will exit their long positions as the market turns negative. Finally, I expect the market to ultimately test its fundamental uptrend around .16 cents. This represents a value target in line with the global population growth and consumption patterns.
This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.
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