A Changing Outlook Confirmed
Sugar futures prices have rallied almost 200pts over the past month as the market has started to recognise that the downward trend in price is now at an end.
However, though our analysis points towards a much tighter balance sheet, opinions are still mixed around the market and today there is no clear consensus. In fact some of the noise in the market has continued to point towards the negatives for price, which we believe overlooks the underlying trends that point towards a more positive outlook for the market after three years of falling prices that have brought factory closures to many sugar industries around the world.
“Sugar producers today continue to face a stressed financial environment and while a return to normal rates of return is still illusive the question of what is fair value remains.”
Toby Cohen, Czarnikow Director
- Most of the increase in value in the last five years seems to have been transferred directly to the grower, which has left the milling sector today facing high costs and falling revenues.
- As production and consumption become more balanced prices cannot stay below production costs. We see the market as being in the midst of a corrective rally, which we expect to take the form of a slow grind higher.
- We have therefore been surprised by the strength of the initial move, which has taken physical prices beyond buyers’ price targets and in the short term is drawing out further marginal selling - though interestingly at prices that are still below production costs.
- In this month’s Review we have decided to take a look at what has changed especially since the recent move has been once of the most significant that we have seen all year.
A Greater Alignment of Production Costs
- Trends over the past two decades have resulted in a greater alignment of production costs around the world.
- Interestingly, performance risks are shifting in favour of OECD producers as fast growth economies grapple with the implications of what socioeconomic change means for their traditional agricultural models.
- In the shorter term, this is most apparent when we look at how costs have converged between OECD and non-OECD producers.
- With the increase in supply in the NAFTA market there has been a large decline in US sugar prices, which have brought values close to world market levels.
- Though the sugar programme prohibits the export of US sugar onto the world market the situation within Mexico is different.
- Mexican production has expanded in response to high prices and the opportunity to place sugars into the US, but the higher priced US market is becoming saturated.
- The need to generate cash has seen marginal tonnage directed towards the world market, which will reduce pressure within the NAFTA region.
- However, the most interesting development is the negotiations between the Mexican sugar industry and the soft drinks sector over shifting volume back in favour of sugar.
The Indian Trade Dynamic
- Since July low quality export volumes have risen as the collapse in the value of the INR has made Indian sugar competitive onto the world market.
- India was a net importer of sugar in 12/13 but this resulted in an increase in closing stocks, placing pressure on industry cash flow and bringing marginal tonnage to the world market.
- These sugars are difficult to place to consuming markets and we think it likely that India's expanding refining sector will look to source some of their feedstock internally this season.
- Though we believe that India will continue to import Brazilian raw sugar it is possible that demand will soften in the short term ahead of the start of the new season.
- However, with the milling sector under increasing financial pressure cane price negotiations are likely to be difficult, which could delay the start of crushing.
- Refineries in Competition
- 2013 has been a very good year for sugar consumers and sugar refiners who have benefited from strong demand and a high white sugar premium.
- With the return of northern hemisphere white sugar supply it appears as though these dynamics are now reversing as the white sugar premium has begun to trend lower.
- Though origin production of white sugar is at a disadvantage to destination refining in terms of being able to meet consumer requirements it has a cost advantage on an FOB basis.
- For this reason the rise in availability of origin production is depressing the white sugar premium as the primary outlet for these sugars is the futures market and reliance on the trade to source homes.
- The continued expansion of the global refining sector is leading to greater competition between refineries for markets.
- Despite the recent strength in the white sugar premium not all refineries have increased throughput this season indicating that increased competition from new entrant is forcing some established market players to give up market share.
“Though the sharp rally in futures prices has brought the market back to a level that is attracting marginal supply and is likely to slow off-take in the short term, it is hard to believe that current prices represent any sort of equilibrium value.”
Stephen Geldart, Senior Analyst
- The function of the futures market is to provide price discovery and to send the right signal to producers and consumers.
- Looking at the recent rally in this context it is clear that the market is reflecting the changing outlook for sugar.
- However, as the pace of change is perhaps more subtle than the size of the recent move it is possible that the market has got a little ahead of itself.
- Nevertheless the issue of value remains a challenge with the market moving closer to equilibrium.
- For producers, low returns continue to risk insolvency while for consumers the availability of sugar below production cost has helped to encourage demand.
A Changing Outlook Confirmed
- Over the past month expectations have changed. While there is no clear consensus today the three year downtrend in sugar prices has ended and the market is seeking new direction.
Toby Cohen, Czarnikow Director said “Sugar producers today continue to face a stressed financial environment and while a return to normal rates of return is still illusive the question of what is fair value remains.”
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