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ANALYSIS-Glut drags on sugar price, biofuel key to rebound

LONDON, May (Reuters) - A fund-driven surge in sugar prices at the start of 2008 has been wiped out as a huge glut of the sweetener reasserted its grip on the market, but growing demand for cane-based ethanol could fuel future price gains.

Raw sugar futures powered out of the starting blocks of 2008 on heavy buying by index funds and soared 39 percent to peak at 15.07 cents a lb on March 3. Prices then slid under pressure from the surplus, and dipped below 10 cents on Friday. Raw sugar stood at 10.82 cents on the last trading day of 2007.

"We are looking possibly for sub-9 (cents a lb)," said Jonathan Boyden, head of sugar trading at Ambrian Capital UK.

"The market is just weighed down by a surplus."

Toby Cohen, head of research at London-based merchant Czarnikow, said: "In the short term, I think there is certainly further downside potential in the market, though the nearby contracts are already below most producers' production cost and reflect the nearby surplus."

Analysts and traders said the wave of investment fund buying early this year was driven by a longer term view that demand for sugarcane-derived ethanol biofuel would grow in response to soaring crude oil prices.

Sugar futures in distant months still reflect this trend, with October 2009 standing at 14.04 cents a lb on Tuesday afternoon, well above 10.10 cents in the nearby July.

"There are some who suggest price signals are misleading growers to produce in 2009 and 2010," Boyden said.

Analysts warned that the market for ethanol was likely to become saturated, while production of sugarcane in Brazil -- the world's top sugar producer and exporter -- was likely to set new records in coming years.

Brazilian analyst Julio Maria Borges sees Brazilian cane output doubling by 2015.


Any possible link between crude oil and sugar prices has now evaporated as crude hit successive all-time highs while sugar prices floundered.

A world leader in biofuels, Brazil has decades of expertise in using sugar cane to make ethanol for cars.

The sheer weight of sugarcane pouring out of Brazil, which is expecting another record crop this year, will drag on sugar prices in the near term, analysts said.

"With more news coming in concerning a big crop in Brazil, investors will become a little more hesitant over pouring more money into sugar futures," said Christoph Berg, managing director of analyst F.O. Licht.

Cohen said, "In the near term, it's very much about an oversupplied sugar balance sheet."

Lausanne-based consultancy Kingsman SA on Friday revised its estimate of the 2007/08 global sugar surplus to 11.34 million tonnes from a 9.13 million tonne surplus previously, mainly due to a hike in its production figures by over 2 million tonnes.

The fall of raw sugar futures to 5-1/2-month lows on Friday could force Brazilian producers to question whether to grow cane or alternative crops such as maize.

"We are close to prices that don't make any sense for the producer any more," said Samer Darwiche, an analyst and physical broker with Kingsman.

"But the incentive for the grower to grow is not diminishing at the back end of the (futures) curve."

Berg said growers were only likely to switch out of sugar plantings if prices remained depressed for a prolonged period, but he said strong crude oil prices could remain an important background factor, especially if crude hits new heights.

Analysts estimated the Brazilian cost of production of sugar at between 11 and 13.5 cents a lb.
(Reporting by David Brough; editing by Nigel Hunt)