Buying (Going Long) Sugar Futures to Profit from a Rise in Sugar Prices

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Contents

Buying (Going Long) Sugar Futures to Profit from a Rise in Sugar Prices

If you are bullish on sugar, you can profit from a rise in sugar price by taking up a long position in the sugar futures market. You can do so by buying (going long) one or more sugar futures contracts at a futures exchange.

Example: Long Sugar Futures Trade

You decide to go long one near-month Euronext Raw Sugar (No. 408) Futures contract at the price of USD 0.1111 per pound. Since each Euronext Raw Sugar (No. 408) Futures contract represents 112000 pounds of sugar, the value of the futures contract is USD 12,443. However, instead of paying the full value of the contract, you will only be required to deposit an initial margin of USD 1,456 to open the long futures position.

Assuming that a week later, the price of sugar rises and correspondingly, the price of sugar futures jumps to USD 0.1222 per pound. Each contract is now worth USD 13,688. So by selling your futures contract now, you can exit your long position in sugar futures with a profit of USD 1,244.

Long Sugar Futures Strategy: Buy LOW, Sell HIGH
BUY 112000 pounds of sugar at USD 0.1111/lb USD 12,443
SELL 112000 pounds of sugar at USD 0.1222/lb USD 13,688
Profit USD 1,244
Investment (Initial Margin) USD 1,456
Return on Investment 85.4615%

Margin Requirements & Leverage

In the examples shown above, although sugar prices have moved by only 10%, the ROI generated is 85.4615%. This leverage is made possible by the relatively low margin (approximately 11.7012%) required to control a large amount of sugar represented by each contract.

Leverage is a double edged weapon. The above examples only depict positive scenarios whereby the market is favorable towards you. If the market turn against you, you will be required to top up your account to meet the margin requirements in order for your futures position to remain open.

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Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Buying Sugar Call Options to Profit from a Rise in Sugar Prices

If you are bullish on sugar, you can profit from a rise in sugar price by buying (going long) sugar call options.

Example: Long Sugar Call Option

You observed that the near-month Euronext White Sugar (No. 407) futures contract is trading at the price of USD 324.60 per tonne. A Euronext Sugar call option with the same expiration month and a nearby strike price of USD 320.00 is being priced at USD 21.64/ton. Since each underlying Euronext White Sugar (No. 407) futures contract represents 50 tonnes of sugar, the premium you need to pay to own the call option is USD 1,082.

Assuming that by option expiration day, the price of the underlying sugar futures has risen by 15% and is now trading at USD 373.30 per tonne. At this price, your call option is now in the money.

Gain from Call Option Exercise

By exercising your call option now, you get to assume a long position in the underlying sugar futures at the strike price of USD 320.00. This means that you get to buy the underlying sugar at only USD 320.00/ton on delivery day.

To take profit, you enter an offsetting short futures position in one contract of the underlying sugar futures at the market price of USD 373.29 per tonne, resulting in a gain of USD 53.30/ton. Since each Euronext White Sugar (No. 407) call option covers 50 tonnes of sugar, gain from the long call position is USD 2,665. Deducting the initial premium of USD 1,082 you paid to buy the call option, your net profit from the long call strategy will come to USD 1,583.

Long Sugar Call Option Strategy
Gain from Option Exercise = (Market Price of Underlying Futures – Option Strike Price) x Contract Size
= (USD 373.30/ton – USD 320.00/ton) x 50 ton
= USD 2,665
Investment = Initial Premium Paid
= USD 1,082
Net Profit = Gain from Option Exercise – Investment
= USD 2,665 – USD 1,082
= USD 1,583
Return on Investment = 146%

Sell-to-Close Call Option

In practice, there is often no need to exercise the call option to realise the profit. You can close out the position by selling the call option in the options market via a sell-to-close transaction. Proceeds from the option sale will also include any remaining time value if there is still some time left before the option expires.

In the example above, since the sale is performed on option expiration day, there is virtually no time value left. The amount you will receive from the sugar option sale will be equal to it’s intrinsic value.

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Buying Straddles into Earnings

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Writing Puts to Purchase Stocks

If you are very bullish on a particular stock for the long term and is looking to purchase the stock but feels that it is slightly overvalued at the moment, then you may want to consider writing put options on the stock as a means to acquire it at a discount. [Read on. ]

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If you are investing the Peter Lynch style, trying to predict the next multi-bagger, then you would want to find out more about LEAPS® and why I consider them to be a great option for investing in the next Microsoft®. [Read on. ]

Effect of Dividends on Option Pricing

Cash dividends issued by stocks have big impact on their option prices. This is because the underlying stock price is expected to drop by the dividend amount on the ex-dividend date. [Read on. ]

Bull Call Spread: An Alternative to the Covered Call

As an alternative to writing covered calls, one can enter a bull call spread for a similar profit potential but with significantly less capital requirement. In place of holding the underlying stock in the covered call strategy, the alternative. [Read on. ]

Dividend Capture using Covered Calls

Some stocks pay generous dividends every quarter. You qualify for the dividend if you are holding on the shares before the ex-dividend date. [Read on. ]

Leverage using Calls, Not Margin Calls

To achieve higher returns in the stock market, besides doing more homework on the companies you wish to buy, it is often necessary to take on higher risk. A most common way to do that is to buy stocks on margin. [Read on. ]

Day Trading using Options

Day trading options can be a successful, profitable strategy but there are a couple of things you need to know before you use start using options for day trading. [Read on. ]

What is the Put Call Ratio and How to Use It

Learn about the put call ratio, the way it is derived and how it can be used as a contrarian indicator. [Read on. ]

Understanding Put-Call Parity

Put-call parity is an important principle in options pricing first identified by Hans Stoll in his paper, The Relation Between Put and Call Prices, in 1969. It states that the premium of a call option implies a certain fair price for the corresponding put option having the same strike price and expiration date, and vice versa. [Read on. ]

Understanding the Greeks

In options trading, you may notice the use of certain greek alphabets like delta or gamma when describing risks associated with various positions. They are known as “the greeks”. [Read on. ]

Valuing Common Stock using Discounted Cash Flow Analysis

Since the value of stock options depends on the price of the underlying stock, it is useful to calculate the fair value of the stock by using a technique known as discounted cash flow. [Read on. ]

Buying (Going Long) Sugar Futures to Profit from a Rise in Sugar Prices

A recent report described a commodity trader buying up thousands of swimming pools’ worth of sugar, potentially moving the market.

Meanwhile, this month, a trade spat broke out between the US and Mexico. At the centre of the flare-up was sugar. Speculation and international politics have both been major factors in the tumultuous, millennium-spanning history of sugar’s trade on the world market. The following episodes in the history of sugar prices show how, for humanity’s sweet-tooth, pleasure and terrible suffering have often been intimately intertwined.

The Price of Sugar (1784 – 2020)

Swimming Pools of Sugar (2006-16)

Between mid-2020 and mid-2020, the price of sugar doubled. A major beneficiary of this swing was Wilmar International. A palm-oil producer, the company has, according to one report, bought ‘more than 6 million tons of sugar…since 2020, enough to fill roughly 3,000 Olympic-size swimming pools at a cost of some $2.3 billion.’ Bad weather and a weak dollar helped boost the commodity’s price. Swings like last year’s are not new to the world sugar markets. Following decades of relative calm, the last 15 years have seen major ups and downs in the price of sugar. Looking farther back, the fortunes of consumers worldwide have sloshed for centuries in the swimming pools of sugar traded on world markets every year.

Weather patterns and Brazil’s allocation of its sugar to ethanol production have been recurring factors over the last decade. In 2006, for instance, the sugar price passed 20¢/lb before rapidly falling. Observers of the Brazilian crop in particular called sugar futures the ‘Pop Rocks of the commodities world’ in that year. Then, in 2009-11, the price hit highs not seen since the early 1980s as adverse weather from India to Brazil delivered lower than expected supplies amid diminished stockpiles and the ongoing ethanol boom. Weather and changing sources of demand have not been the only important factors in sugar’s long, bittersweet history, though. Just as crucial have been slave labour, war, and changing production techniques.

The Queen of Cavities (1226-1790)

Humanity’s love affair with sugar goes back over two millennia. Ancient Sanskrit texts offered sugary recipes. In the Early Middle Ages, Arabs spread the sugar cane plant across the Mediterranean. Soon, Crusaders brought it back to Britain, and the trickle of the plant, known for its medicinal qualities, slowly increased to the north. British elites adopted sugar, imported from Venice, as a luxurious addition to their banquets.

As early as 1226, Henry III is known to have made a request for three pounds of sugar. From then on, the quantities of sugar on royal tables only grew. A few centuries later, a German visitor noted how Queen Elizabeth I’s teeth were blackened from her sugary diet, ‘a defect the English seem subject to.’ By this time, sugar was an important vehicle for conspicuous consumption. A banquet thrown in honour of that queen of cavities featured sugary sculptures depicting everything from soldiers, castles and drummers to mermaids, unicorns, oysters and frogs.

This saccharine decadence fell out of style among the British elite. But sugar consumption soon took off anyway with the rise in popularity of bitter drinks like coffee and tea. Sweetened with sugar and increasingly available, they entered the daily routines of a growing fraction of British society, which could consume them in the burgeoning number of coffee houses popping up across London.

To satisfy rising demand, European powers sent African slaves to their West Indian colonies, extracting 12 million tonnes of sugar—and destroying countless human lives—between 1690 and 1790. This was the infamous ‘triangle trade,’ where Europeans sent manufactured goods to Africa, slaves were sent from Africa to the West Indies, and the West Indies sent commodities like sugar to Europe. Disagreements over sugar taxation in this web of trade were an important driver of tensions between Britain and its American colonies that ultimately led to war.

Napoleon’s Beets (1810-15)

Source: Bibliothèque nationale de France

As Europeans grew accustomed to inexpensive sugar, the prospect of a supply disruption became a growing liability for governments. During the Napoleonic Wars, British blockades left Continental Europe starved of sugar. To replace the lost source of sweetness, Napoleon directed the creation of a domestic beet sugar industry.

The production of sugar from beets was a recently developed process. The first European beet sugar factory opened in 1801. By the tail end of the Napoleonic Wars, 300 French factories were producing nearly eight million pounds of beet sugar. An advantage of beet sugar to some was that its production was not tainted by the institution of slavery. In Britain, for instance, Quaker abolitionists tried to spur a beet sugar industry, with little success.

As for Napoleon’s beets, as the blockade ended and trade with the West Indies reopened, the price of sugar fell. This supply shock decimated the nascent European beet sugar industry, but it recovered by the middle of the century. Around the turn of the 20th century, beet sugar output even eclipsed that of cane sugar.

The Rise and Fall of the Beet (1860 – 1994)

Sweet Freedom (1861-69)

During the American Civil War, domestic sugar supplies crashed as slaves abandoned Louisiana sugar plantations. With over one tenth of the world’s sugar supply taken offline due to the war, and the failure of the French beet sugar crop, prices spiked from 7¢/lb in 1861 to over 20¢ in 1864.

While the institution of slavery was destroyed by the Union army in the US, it persisted in Cuba. But Cuban slaves’ fortunes soon turned, as a plantation owner fed up with Spanish colonial rule freed his slaves and revolted, starting a war that would last ten years and result in the emancipation of slaves over the coming decades. In the spring of 1869, speculators took advantage of this upheaval by attempting to corner the sugar market, predicting that the conflict would decimate the animals used to harvest and process Cuban sugar.

Amidst rising prices, the New York Times fretted that ‘like the Americans of the days of the Revolution and of the era of the War of 1812, those of the present generation must forego their usual dessert, and use with sparing hand the saccharine substance with which they have been accustomed to sweeten their morning coffee and evening tea.’ While some believed ‘we can’t have cheap crushed sugar without crushed rebellion or crushed Spanish domination,’ others saw the upheaval as an opportunity for Americans to start cultivating beets, as the Mormons had attempted unsuccessfully in Utah in the 1850s, and as Napoleon had accomplished in France. ‘Surely no patriotic Yankee will submit to be outdone by a Frenchman,’ one Yankee wrote.

While the beet sugar industry took off slowly, by 1902 American factories were producing over two million tons of sugar annually. The US also continued to rely heavily on Cuban supply, and American investment in the island’s sugar industry expanded dramatically. In the decades following the Civil War, the price of sugar fell steadily, as production techniques and relative peace boosted supply.

Dance of the Millions (1920)

‘The wildest year in the history of sugar.’ That’s how the New York Times described 1920. ‘Millionaires were made overnight. Everybody was speculating wildly.’ In what became known as the ‘Dance of the Millions,’ speculators drove up the price of sugar and related Cuban assets. It was a candy bubble that popped almost as soon as it grew.

During the First World War, Allied governments had coordinated to control the price and distribution of sugar. Following the end of hostilities, in the US, the cost of sugar held at the government-set price of roughly 7¢/lb throughout much of 1919. Meanwhile, Congress deliberated about whether to buy the 1919-20 Cuban sugar crop or liberalise the market. A speculative frenzy in sugar ensued as the federal government declined to purchase the crop and controls fell by the wayside amidst a global shortfall of sugar, caused by bad weather and wartime disruptions. The price of sugar nearly tripled to almost 21¢/lb in May of 1920, before crashing to just over 5¢ by the end of the year. As the sugar price went sky-high, so did Cuban property values. American firms invested millions in production on the island. When the price crashed with the return of European beet sugar to the market, loans taken out based on the inflated sugar price went sour, driving a financial crisis in Cuba. American banks took over a number of Cuban sugar plantations.

Source: Library of Congress

The Endangered Candy Bar (1963)

‘The nickel bar of candy is headed either for extinction or a drastic reduction in size,’ the New York Times warned amidst a sudden increase in the price of sugar. After the 1920 crash, with world production steadily rising, prices stayed relatively flat until the 1960s. But following the 1959 Cuban Revolution, the US banned imports from its island neighbour, depriving Americans of their most important source of sugar. With that disruption, a general production shortfall in 1963—including in Cuba, where production had crashed by half since before the revolution—and rising global demand, prices spiked. The USSR, which bought up the Cuban sugar spurned by the US, unexpectedly refused to dump it on the world market, reducing further the expected supply. ‘By thus sweetening the Russian’s life, Mr. Krushchev may perhaps hope to be forgiven for his failure to carry out other promises,’ the Chicago Tribune explained drily.

The abruptness of the increase led the US Agriculture Department to warn of a ‘speculative bubble,’ and the US Senate was pressured to investigate as consumer prices rose throughout the country on items like ‘soft drinks, bread, rolls, pastries, and buns, sweet pickles, jams, syrups, and canned fruit.’ The Los Angeles Times felt the need to offer its readers an explanation of the difference between a spot and futures market, saying that the sugar crisis had made world commodity markets newly relevant to ordinary Americans.

Newspapers noted echoes of the ‘Dance of the Millions.’ ‘Although sugar is a commodity particularly sensitive to political crises,’ the New York Times noted, ‘both the 1963 and 1920 markets occurred in time of peace and were not influenced by world crises.’ In each case, rumours of shortages led suppliers to hold onto their sugar in the hope of a higher price, restricting supply and driving demand from cautious participants wanting to stockpile.

Coke Gets Corny (1972-82)

Equilibrium returned, but prices spiked again twice in the succeeding two decades. In 1972, supply shortfalls, rising demand, unrest in Pakistan, and the devaluation of the dollar all contributed to a large increase in the price of sugar, rising from 5¢/lb in December of 1971 to 9¢ in March 1972. At the time newspapers called it an ‘almost vertical rise in sugar prices.’ But that was nothing compared with what was to come. By February of 1974, thanks to rising inflation, anticipation of rising demand from China, rumours of a large purchase by the USSR on global markets, large purchases by Arab nations, a bad European harvest, and the perception of imminent shortages, the price of a pound of sugar broke 20¢/lb, before sprinting to over 65¢ in November. Later reports also claimed that the Russians had speculated on the futures market in anticipation of these rises. Outrage at the sugar refiners’ newfound profits became widespread, and the US federal government opened investigations into price-fixing.

In the face of unprecedented prices, nutritionists were giddy at the prospect of a pullback in consumption, but the president of Waldbaum Supermarkets was sceptical: ‘Sugar happens to be the most delicious food there is, it seems, and people want to indulge themselves.’ His confidence was misplaced. US per capita consumption of refined sugar fell indeed, from 103 pounds in 1973 to 90 in 1975. The price spikes in sugar stimulated interest in alternative and artificial sweeteners. Little surprise that in 1974 Coca-Cola moved to allow high-fructose corn syrup in sodas like Sprite and Fanta. The tumult in the sugar market captured people’s imaginations as it altered their beverages. A movie was even released four years after the fact about a bureaucrat trying to profit from it, called Le Sucre, starring Gérard Depardieu.

After falling from its highs thanks to supply increases, the price of sugar again spiked in 1980 due to crop shortfalls in Russia and Cuba. In October 1980, futures for March delivery reached over 45¢/lb, up from under 14¢ in the same month of the previous year. Hershey’s confirmed sugar addicts’ fears by reducing the size of popular products like Kit-Kats and Reese’s. Coca-Cola finally allowed bottlers to use corn syrup to sweeten their flagship product, permitting up to a 50% share. And newspapers offered sugar-free dessert recipe—for example, ‘sugarless spicy raisin bars’—to cash-strapped, sweet-toothed readers.

Soon, prices crashed, to under 6¢/lb in October of 1982, thanks to a weather-induced bumper crop. Following the wild ride of 1963-82, the sugar market calmed down starting in the 1980s as developed countries accounted for a rapidly falling share of global sugar imports. This was in part due to the substitution of alternative sweeteners for sugar by companies haunted by the recent price spikes. The more price-conscious developing countries were not as receptive to large price increases on the world market, reducing volatility. This newfound moderation did not last long. Price swings in the 1990s foreshadowed the rollercoaster ride sugar would take in the 21st century. Market participants familiar with the complex collisions of politics, animal spirits and meteorology that have characterised sugar’s history were likely better prepared for it.

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