Wilkinson's Edge The Cutting Edge of Financial Analysis
Commodities Corner
If I told you that the surge in the price of sugar this week was due to the price of gas, would you believe me - or would you think I'd gone mad?
Well it's true enough for me to report to you about it.
The price of sugar traded on the New York Board of Trade reached a five-year high this week, mainly on concerns over gasoline prices, which surged following the "pipeline kink" served up by the twin hurricanes.
You see, Brazil - the world's largest exporter of sugar - faces a choice between two buyers. First, the rest of the world buys sugar as a sweetener. Second, Brazilian ethanol producers use sugar cane to produce fuel that serves to compete with gasoline.
So this week as gasoline futures on the New York Mercantile Exchange approached record levels again, fears rose that a growing proportion of Brazil's sugar harvest would be diverted to ethanol production, which is expected to rise 5% to 16.9 billion liters in 2005.
Ethanol can be distilled from corn and sugar and is blended in conjunction with gasoline to produce a cleaner-burning fuel. Already Brazilians are switching to ethanol-capable cars.
According to Brazilian automaker statistics, the share of alcohol- and ethanol-powered cars recently rose to 61.7%, a percentage that has doubled in just nine months. Merely eighteen months ago only 16 out of every 100 cars driven ran on the mixture. Brazilian car sales are up 16% alone on the year to August.
While in 2005 the global shortage of sugar ran at 3.08 million metric tons, 2006 should see a lesser supply deficit of 1.07 million metric tons.
Shares in Archer Daniels Midland Co. (ADM), the world's leading ethanol producer, rose on the expectation that the corn-based fuel would lead to better profits in the coming years. Earlier in September, ADM announced plans to expand ethanol production by one-third to 1.6 billion gallons by 2008, thanks to rising demand.
In 2005 approximately 4 billion gallons of ethanol will be added to gasoline supplies. The recent Bush Energy Bill has called for that volume to increase to 7.5 billion gallons annually by 2012.
ADM's competitor, Cargill Inc., also recently announced plans to build ethanol plants in Indiana, Nebraska and Ohio. That would allow them to produce 100 million gallons of the fuel annually starting as early as 2006.
In last week's Wilkinson's Edge I commented on the potential supply disruptions to coffee stocks held in New Orleans warehouses.
Well, now traders are trying to get their hands on information about damage to Louisiana's sugar cane harvest. Early calculations say that as much as 9% of the crop may have been destroyed by the storms, which accounts for 1.5% of total U.S. sugar production, according to the Department of Agriculture.
The sugar chart shows the extreme nature of this week's move in vivid contrast to the slide in corn.
What's in your gas tank?
Despite a recent sharp run-up in corn futures by some 25%, corn has found few buyers recently, due to a surplus of corn crops.
Tim Hannagan, grains analyst at Alaron Trading in Chicago, says that the market was anything but optimistic.
"With the period of highest supply still looming and the market not expecting any help from the export sector, prices [of corn] look likely to press lower unless developments in the oil market, soybean oil and inflationary psychology make it more difficult to press below the $2.00 level."
Tim suggests that while current oversupply concerns probably justify weak nearby prices (December 2005 and March 2006), there is little justification for soggy prices thereafter since ethanol supplies might be quickly depleted as gasoline supplies are disrupted.
While sugar soars on account of tight supplies, corn expiring in July or September of 2006 might present futures speculators with a decent risk/reward opportunity.
