Sugar Prices are the Lowest in a Decade, but haven’t Hit Bottom Yet

(MarketWatch) – Sugar prices have fallen to their lowest levels in a decade and are likely to drop further as record world-wide production collides with healthier eating.

Raw sugar futures traded on the ICE Futures U.S. exchange SBV8, +3.36%  settled at 10.1 cents a pound on Monday, the lowest finish for a front-month contract since June 10, 2008, according to Dow Jones Market Data. Year to date, prices have lost more than 33%—the biggest percentage decline so far among major commodities.

“The world has gone from supply deficit to supply surplus in the past year and a half,” says Sal Gilbertie, president and chief investment officer at Teucrium Trading. “This year, both India, the world’s second-largest producer of sugar, and Thailand, the world’s fourth-largest sugar producer, are having record production years, which has ballooned the surplus.”

World sugar production is forecast to reach a record level of 187.6 million metric tons in the 2017-18 marketing year, according to the United Nations’ Food and Agriculture Organization, or FAO. That would mark an increase of just over 11% from the previous session.

“The substantial expected expansion in world sugar output means that production is set to surpass utilization by as much as 17 million [metric tons], the largest production surplus in history, leading to significant accumulated inventories, in both importing and exporting countries,” the FAO wrote in a biannual report published in July.

Robin Shaw, a sugar analyst at brokerage Marex Spectron, explains that sugar cane production doesn’t decline significantly as prices fall because the crop, which is classified as a species of grass, can be cut back for five or six years in a row, meaning that it is seldom dug up to plant another crop.

He also points out that sugar is “protected all around the world by high import duties and export subsidies.” The Indian government — and, to a lesser extent, Pakistan — have been “keeping cane prices artificially high in order to win farmers’ votes, leading to massive surges in production.”

Against that backdrop, uncertainty surrounds sugar demand.

Demand is “stationary” or even declining in the European Union, the U.S. and Australia, says Shaw, as consumers opt for healthier alternatives. The U.S. Department of Agriculture forecasts total domestic sugar use for the 2018-19 fiscal year at 11.33 million metric tons, little changed from the 11.27 million expected for the current fiscal year. However, in the rest of the world, sugar demand is “almost certainly still rising” due to population growth, if nothing else, he says.

In China, sugar consumption for the 2018-19 marketing year is forecast to stand unchanged at 15.7 million tons, with growth “limited by increasing health concerns and competition from sugar and sweetener replacements,” according to the FAO.

Overall, emerging markets are “experiencing turmoil, and we see expectations of lower demand going forward,” says Darren Kottle, portfolio manager of the Catalyst Multi-Strategy managed-futures fund ACXIX, +0.00%

Strength in the U.S. dollar DXY, -0.57%  has also contributed to the drop in sugar prices, as well as an overall decline in the Bloomberg Commodity Index, which has lost roughly 5.2% this year as of Wednesday. “A stronger U.S. dollar versus the [Brazilian] real USDBRL, -0.7610%  and [Indian] rupee USDINR, -0.5012% increases Brazilian and Indian producers’ profits in their local currency, perhaps spurring them to increase production,” says Jeff Klearman, portfolio manager at exchange-traded-fund issuer GraniteShares. A stronger greenback also tends to lower commodity prices, including those for sugar, he adds.

Longer-term, sugar’s supply surplus will eventually push prices so low that production takes a hit.

Sugar prices may see a rise to around 15 cents “sometime in 2020,” says Shaw, who estimates that the cost of production for efficient producers such as Brazil and Thailand stands at roughly 12 cents to 14 cents a pound, above the current price of 10 cents. “Prices will, of course, go up as producers go bankrupt, but that is a very slow process,” he says.

Investors appear to be “dipping their toes in the water” given inflows into sugar-based exchange-traded products, says Gilbertie, whose company sponsors the Teucrium Sugar Fund CANE, +2.20% which offers unleveraged direct exposure to sugar. The inflows suggest that investors are “taking a view that sugar prices could be at or near a multiyear cyclical bottom,” he says.

Meanwhile, sugar prices are likely to decline even further. “I don’t see anything in the near term that suggests an inevitable reversal of sugar’s drop,” says Kottle, adding that some analysts expect to see eight cents a pound. That would be the lowest in roughly 14 years.