High volatility has been a feature of futures and physical sugar markets over the past months. Whether high volatility is likely to become a long-term feature of the sugar market or whether traded options on sugar futures will become liquid and a viable means of trading such volatility or whether governments, regulators and exchanges are likely to put in place measures to stem price swings is yet to be seen. However, there are a number of factors that if not addressed give rise to the possibility of higher price volatility over the long-term.
Global warming and as a consequence climate change raise the risk of weather instability in the form of extreme weather and an increase in magnitude and frequency of such events. In early February cyclone Yasi destroyed up to 25% of Australia’s sugar cane crop. Supply tightness as a result of such weather events, increasing world population and rising demand for ethanol leading to sugar cane, particularly in Brazil, being diverted to ethanol production potentially provides sugar with price support. Rising oil prices make biofuels, including ethanol from sugar cane, viable and more competitive, but higher biofuels demand potentially decreases sugar supply and removes agricultural land from food production to the growing of crops for biofuel production. Rising food prices have led and will continue to lead to political instability around the world, in some cases pushing oil prices even higher. Such political instability raises concerns amongst governments and often results in decisions aimed at protecting domestic food stocks, including sugar supplies, at the expense of potential exports. India recently referred a decision to permit up to 500,000 tonnes of sugar exports, under its Open General Licence, to a government panel for review and ratification to ensure sufficient domestic supplies prior to such an approval.
Due to the serious nature of the above issues and the potential for market and political instability, futures exchanges have moved to play their part in reducing price spikes and volatility resulting from computerised algorithmic trading. ICE announced in February that it may revert back to automated price generation.
Regulators are also exploring measures that can be put in place to ensure price transparency including clearer supply and demand outlooks, open access to futures trade data including large positions held by funds and reporting and/or placing OTC trades through the exchanges. As there seems to be no consensus on the link between derivatives speculation and physical commodity prices, limits on futures positions seems unlikely.
Nicolas Sarkozy has identified commodity price volatility as a priority during France’s presidency of the G20 group of nations. US beet production may decrease by 20% and in a move to avoid this, last week the USDA gave Monsanto the go ahead with its genetically modified sugar beets.