Commodity prices have taken a severe beating. A sputtering US recovery, a weak outlook for the Chinese economy, and fear of contagion resulting from the ongoing European debt crisis sparked a selloff in the stock market. The Dow Jones Industrial Average tumbled by 10% since it peaked in early May and – save for gold – the selling extended to virtually all other markets.
True, some markets that rely heavily on Chinese imports could see a direct impact from shrinking demand. However, amidst their zeal to liquidate increasingly painful long positions, in some cases, and to get on board with what seems to be the new downtrend in commodities, in others, funds and individual traders have perhaps ignored the fundamentals of some markets.
To illustrate, Chart 1 shows that open interest in sugar jumped to two-year highs over the past couple of months, while the sizeable net-long speculative position swung to a net-short position. We believe that the selling pressure in the sugar market overshot basically bullish fundamentals.
Thai production skyrocketed over the past few seasons. Normally a producer of 6 million to 7 million tonnes, output shot up to 9.5 million tonnes in 2010-11 and then to 10.5 million tonnes in 2011-12. Early estimates for 2012-13 are just shy of 11 million tonnes. Domestic consumption is about 2 million tonnes, and the rest of the crop is exported. Unless a weather problem pops up, the addition of 3 to 4 million tonnes to the pool of available sugar for world trade is a permanently bearish factor.