Sweet Setup for Sugar

Conclusion: We are long sugar because of its bullish three-factor setup via supply, demand and price.


Position: Long Sugar via the ETF SGG.


Whenever we add commodity exposure on the long or short to the Hedgeye Virtual Portfolio, it’s supported by a confluence of three factors: supply, demand and price. For much of the last few weeks, both supply and demand were supportive of getting long sugar. With yesterday’s (-10.2%) sell-off, we finally got our price.


From a supply perspective, the USDA recently released their forecasts for their 2010/11 marketing year, and estimates for global production, exports and ending stocks were all revised down from earlier forecasts, coming in at (-1.9M) metric tons,  (-1.8M) metric tons and (-564k) metric tons, respectively.


In the report, we see that many of the world’s major producers and exporter’s production and export estimates were also revised down: 

  • Brazil, overwhelmingly the world’s largest producer at 23.7% of global production, saw its production estimate for 2010/11 revised down (-1.3M) metric tons to 39.4M due to dry weather;
  • China, the world’s fourth-largest producer at 7.5% of global production, saw its production estimate revised down (-1.35M) metric tons to 12.67M due to dry weather that delayed planting earlier in the year;
  • Thailand, the world’s sixth-largest producer and second-largest global supplier at 11.4% of world exports, saw both its 2010/11production and export estimates revised down due to delayed planting – most notably exports, which are now forecast at (-20%) YoY and will limit the availability of global supplies should any major importer experience an inventory shock. 

We’d be remiss not to call out Australia, the world’s eighth-largest producer and third-largest supplier (6.9% of world exports), as it is currently experiencing severe flooding in Queensland – a region that is responsible for 95% of the nation’s sugar production. Premier Anna Bligh has gone on record saying that the current flooding is “unprecedented” and that damage control is likely to last until the end of next month.


One bearish data point on the supply side is India’s upwardly-revised production estimate of 25.7M metric tons – a difference of +1M metric tons from the May forecast on the strength of favorable weather (India is the world’s second-largest producer at 13.4% of global production). This is, however, offset by the fact that India will likely be reluctant to export, given that they are only months removed from a massive shortfall, whereby they became a net importer after years of surplus production (similar to what is happening in China regarding corn).


From a demand perspective, global consumption estimates for 2010/11 were revised upward +1.2M metric tons to 158.9M. From import perspective (price is set on the margin), we are seeing increased demand from countries like Russia, Pakistan and potentially Australia that have suffered from drought and/or flooding throughout the year as they try to rebuild depleted stockpiles.


Further, we are anticipating that both China and India (the world’s first and ninth-largest importers) to actually step up their purchases of sugar (and other agricultural commodities) in 2010/11 in an effort to build supplies in order to tame accelerating food inflation that is running in the double digits for both countries.


Sweet Setup for Sugar - 1


In fact, China’s imports for 2010/11 are forecast at a record 1.8M metric tons – a number we believe will be higher when it’s all said and done. Meanwhile, much to-do has been made about India reinstating its import duty tomorrow, and this expectation contributed to yesterday’s selloff. We caution, however, that a ~10% sell-off may be pricing in too much smooth sailing with regard to India’s sugar stockpile rebuilding. If domestic production falters in any way, expect India to act quickly and resume imports as a way of alleviating any potential scarcity within its domestic market.


While sugar is not a necessarily considered a necessity, the demand for sugar has been relatively constant throughout history, turning negative on a YoY basis only four times throughout the last 60 years, with the last occurrence in the 2005/06 marketing year. Given that, we are comfortable holding a bag of sugar here in spite of our forecast for slowing growth globally in 1H11.


Sweet Setup for Sugar - 2


From a price perspective, we were finally able to buy sugar on a pullback after admittedly selling it much too early on July 22nd (for a +6.7% gain, however). Interestingly, we did anticipate a near-term pullback given the lofty bullish sentiment of last week. This week, traders reduced their bullish expectations in the latest Bloomberg survey:


Sweet Setup for Sugar - 3


Lastly, from a quantitative perspective, sugar remains bullish from an intermediate-term TREND perspective with immediate-term TRADE resistance +13.8% higher at $103.11.


Darius Dale



Sweet Setup for Sugar - 4

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Nothing Is Easier

“Do it. Nothing is easier.”

-Achilles (Troy, 2004)


Nothing is easier than wiping all of your screens clean at the end of a long year.


Yesterday, year-end market prices were booked in major markets like Germany (+16.1%), Spain (-17.4%), and Japan (-3.0%). Overnight we got the rest of Asia to submit their scores as well. No matter where we go in the world this morning, here are the year-end results:


Nothing Is Easier - 1


The Top 3 stock markets so far are Sri Lanka, Indonesia, and Latvia. The Bottom 3 are Spain, China, and Italy.


On the long side, we’ve been bullish on Indonesia in the Hedgeye Portfolio but we sold it way too early this year. We certainly didn’t get Sri Lanka or Latvia right on the long side either. We still have a 9% long position in the Hedgeye Asset Allocation Model to Germany.


On the short side, I think we managed global macro risk pretty well. At the beginning of 2010, two of our top 3 Macro Themes were Chinese Ox in A Box (bearish on China) and the Sovereign Debt Dichotomy (bearish on Spain, Italy, and Greece).


On the US stock market side, while there’s been much bonus-season oriented fanfare heading into year-end, the SP500 underperformed more than half of the world’s stock markets this year. It also underperformed Commodities.


This is not to say that a +12.7% annual return in the SP500 is bad. It’s good.


It’s just not great. It’s below both of these important asset class averages: 

  1. MSCI All World Index = +13.3%
  2. CRB Commodities Index = +15.2% 

Being long US stocks beat being long the US Dollar. But don’t forget that from June to November (when we were short the US Dollar) that wasn’t hard to do. That’s when the US Federal Reserve adopted it’s explicit policy to inflate. In doing so, it debauched the world’s reserve currency and put inflation expectations right back to where they were before Bernanke said he saw no inflation with $150 oil in 2008.


Actually, calling it 2008 style inflation isn’t fair. Nothing Is Easier than seeing 2011 style inflation now. Copper prices  are hitting all-time highs this morning (higher than the 2008 levered-long highs) at $4.42/lb.


What will be most interesting to me in 2011 is whether or not inflation starts to matter to US Equity markets like it has started to matter to global equity (China, India, and Brazil, etc) and bond markets since The Ber-nank opted for Quantitative Guessing (QG2) in November.


While I’m not a big fan of being locked into “best ideas” from January 1st to December 31st of a calendar year, I am a big believer that you need to wake up every morning accepting that uncertainty will dominate every day in between. Nothing Is Easier than doing that.


My immediate term TRADE lines of support and resistance in the SP500 are now 1254 and 1265, respectively.


Best of luck out there in the New Year,


Keith R. McCullough
Chief Executive Officer


Nothing Is Easier - 2


TODAY’S S&P 500 SET-UP - December 31, 2010


As we look at today’s set up for the S&P 500, the range is 11 points or -0.31% downside to 1254 and 0.57% upside to 1265.   Equity futures are little changed to fair value in the last trading session of the year. On Thursday, US equities closed slightly lower which was only the fourth down day this month for the S&P 500.



  • Kforce (KFRC) said it started a stock buyback plan, effective Jan. 6 through Feb. 11
  • Nektar Therapeutics (NKTR) said CEO Bharatt Chowrira will leave co. Jan. 3, with a $600k one-time severance payment, as well as monthly payments
  • Old Dominion Freight Line (ODFL) said COO John Yowell died


  • One day: Dow (0.14%), S&P (0.15%), Nasdaq (0.15%), Russell (0.07%)
  • Last Week: Dow +0.72%, S&P +0.28%, Nasdaq +0.21%, Russell +0.34%
  • Month-to-date: Dow +5.12%, S&P +6.55%, Nasdaq +6.59%, Russell +8.63%
  • Quarter-to-date: Dow +7.25%, S&P +10.22%, Nasdaq +12.43%, Russell +16.8%
  • Year-to-date: Dow +10.95%, S&P +12.8%, Nasdaq +17.36%, Russell +26.28%
  • Sector Performance mixed (1 sectors up,78 down and 1 flat) - Energy +0.09%, Materials flat, Consumer Discretionary (0.19%), Consumer Staples (0.17%), Industrials (0.17%), Utilities (0.16%), Tech (0.24%), Healthcare (0.31%), and Financials (0.35%) 


  • ADVANCE/DECLINE LINE: 27 (-720)  
  • VOLUME: NYSE 508.02 (-2.32%)
  • VIX:  17.52 +1.39% YTD PERFORMANCE: -19.19%
  • SPX PUT/CALL RATIO: 2.31 from 1.74 (+33.20%)  


Treasuries were weaker with the curve more or less flat.

  • TED SPREAD: 19.94 0.406 (2.078%)
  • 3-MONTH T-BILL YIELD: 0.12% -0.01%  
  • YIELD CURVE: 2.72 from 2.71


  • CRB: 327.11 -1.09%
  • Oil: 89.84 -1.40% -  Trading down 0.22% in the AM
  • Oil Heads For Highest Annual Close Since 2007 as Commodity Demand Recovers  
  • COPPER: 442.00 +1.18% - Trading up +1.32% in the AM
  • Copper Advances to Record on Speculation Supply Shortage Poised to Worsen
  • GOLD: 1,405.05 -0.49% - Trading up +0.54% in the AM
  • Gold Poised for Tenth Annual Gain as Investors Seek Inflation Protection


  • Commodities Beat Stocks, Bonds, Dollar in 2010 as All Asset Prices Advance
  • Gold's Rally May Pause Near Record on Bollinger Bands: Technical Analysis
  • India Winter Oilseed Output May Gain as High Prices Spur Mustard Planting
  • Gold May Increase on Investor Demand for Wealth Protection, Survey Shows
  • Corn Heads for Best Year Since 2006 on Global Production Deficit Concerns
  • Vietnam Coffee Crop May Drop Next Season on Smaller Beans, Executives Say
  • Raw Sugar May Increase Next Week on Global Supply Concern, Survey Shows
  • GDF Said to Study Initial Offer for Oil, Gas Production Unit to Lower Debt
  • Russia Starts Oil Pipeline to China as Putin Attempts to Diversify Exports
  • Gillard to Boost Aid for Flood-Stricken Queensland as Thousands Evacuated
  • Peacekeepers in Ivory Coast May Use Force if Attacked, United Nations Says


  • EURO: 1.3263 +0.56% - Trading up +0.93% in the AM
  • DOLLAR: 79.521 -0.34% Trading down -0.56% in the AM (7 straight down days)


  • European Markets: FTSE 100: (0.76%); DAX: closed; CAC 40: (0.69%) (as of 06:45 EST)
  • European markets have moved in a narrow range on the final day of trading in 2010.
  • Indices edged higher on the open before reversing gains on very thin volumes in a shortened trading session.
  • Markets in Belgium, France, Greece, Ireland, Netherlands, Portugal and UK are open with trading ending between 07:30-08:15ET.
  • FTSE100 and CAC currently trade off session lows. Six sectors trade higher led by basic resources and personal & household products, whilst healthcare and food & beverage lead fallers.
  • UK Nationwide Dec House Prices +0.4% y/y vs consensus (0.4%) and prior +0.4%


  • Asian Markets: Nikkei (closed); Hang Seng +0.2%; Shanghai Composite +1.8%
  • Asian markets that were open finished mixed in unsurprisingly thin trade, with few actually trading full days.
  • China rose 1.76%, with coal producers leading the market higher when Shanxi Xishan Coal & Electricity Power, which jumped 6%, said it will raise prices tomorrow.
  • Financials led Taiwan higher +0.73% after yesterday’s rate increase, and construction shares also showed healthy gains.
  • Hong Kong was flat in a half day’s trade.
  • Australia, which closed early, was bit by a broad-based decline. Banks fell on worries that the European debt crisis will raise their offshore debt costs. BHP Billiton fell 1% on speculation it will make an offer for Anadarko Petroleum, and other miners fell on concern about the effects of flooding.
  • Japan, South Korea, Thailand, and Indonesia were closed for New Year’s Eve.



Alberta Bound

This note was originally published at 8am on December 30, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.

“This piece of heaven that I've found;
Rocky Mountains and black fertile ground;
Everything I need beneath that big blue sky;
It doesn't matter where I go;
This place will always be my home;
Yeah I've been Alberta Bound for all my life;
And I'll be Alberta Bound until I die.”

- Paul Brandt


For those that have experienced an Alberta winter, you may disagree with Canadian singer and song writer Paul Brandt that Alberta is a great place to be bound for in December.  In fact, our Chief Operating Officer was in Calgary a month ago on a day in which Calgary registered as the second coldest place on the planet. While he was a bit whiny about that fact, in my opinion, cold weather is like anything – if it doesn’t kill you it makes you stronger.  Last night I took my nieces and nephew on a sleigh ride in -20 degrees Celsius weather and I think it made them stronger.


I always enjoy flying back home to Alberta and into the Calgary International Airport.  Each time I’m struck by two things: the vastness of my home province and the rapid growth of Calgary, the business capital of the Canadian energy industry.  The newest addition to the growth of Calgary is a 59-story office tower called “The Bow”, which will be the largest office tower in Canada outside of Toronto when it’s completed in 2012.  This tower will become the world headquarters of Encana, a global leader in non-conventional gas production.


Alberta is the home to the vast majority of Canada’s energy resources.  In particular, the Canadian oil sands, containing ~170 billion barrels of oil reserves, is second only to Saudi Arabia and accounts for just over 13% of all global reserves.  It is estimated that the Canadian reserves could supply Canadian energy needs for the next 400 years.  This is true energy independence. 


These vast energy resources are one of the key factors supporting our long position in the Canadian Dollar (or the Loonie) in the Virtual Portfolio.  Not only is Canada completely energy independent, it will also benefit in a weak dollar environment which inflates the prices of U.S. dollar-based commodities, such as oil.  While the United States gets squeezed in a high oil price environment, Canada becomes cash rich, as 99% of Canadian oil exports get sent to the U.S.  Clearly, the current U.S. Federal reserve policy of Quantitative Guessing is very supportive of our long Loonie position.


It is estimated that energy contributes ~31% of Alberta's GDP and almost 5% of Canada's GDP overall, therefore the price of oil has a real impact on Canadian GDP.  As the price of oil increases, Canadian GDP will directly benefit.  Moreover, as Canadian production increases, energy’s contribution to Canada’s GDP will grow.  Currently, Canada represents ~6% of global oil production through ~13% of global reserves.  Over time, as we’ve seen throughout the last decade, Canada’s production share globally will begin to mirror its reserve share, which should create a major tailwind for Canadian GDP in the next decade.


Our Energy Team led by Lou Gagliardi recently released their top 10 list for energy investment ideas in 2011.  Not surprisingly, a number of these ideas were Alberta based energy companies.  So without further adieu, our top 3 Alberta ideas for 2011:


1. CANADIAN OIL SANDS TRUST (COS) – Mispriced conversion


The company is converting to a corporation from a trust at the end of December 2010. The stock recently took a hit on news that COS will cut its dividend payout ratio in half upon conversion to a corporation in order to maintain cash flow within capital spending. COS is 100% levered to oil sands production, as the largest partner (36.74% interest) in the Canadian Syncrude Joint Venture.


We view COS a company with upside earnings potential in 2011 -- potentially a 63% increase from 2010 to C$2.04/share at $85 oil, and net cash flow positive C$0.20/share after capital spending. At $89 per barrel oil, earnings could increase further to C$2.28/share, with net cash flow at C$0.45/share.  We view shares as oversold, as the market overreacted to the dividend reduction news, presenting a buying opportunity. COS is undervalued by roughly 30% according to our discounted cash flow models. The company's operating fundamentals remain strong, particularly with high oil price leverage.  The balance sheet has a moderate debt-to-capital ratio at ~23%, net of cash at ~21%.


2. NORTH AMERICAN ENERGY PARTNERS (NOA) – Predictable cash flow and dirt cheap


This Canadian oil sands resource "services" provider has been hit hard by the downturn in Oil Sands project expansion that began in 2009 and continued into 2010. NOA provides oil sands mining and site preparation, piling and pipeline installation services: as of the end of September, revenue from oil sands services generated 83% of net revenue, 84% of which is recurring revenue. Although its balance sheet remains under pressure at ~57% debt-to-capital and net of cash at ~50%, recent projected increases in capital spending by oil sands companies and the resumption of oil sands growth projects is good news for NOA, which will benefit from increased project spending.


Oil sands project growth will provide the catalyst to earnings growth into next year. For NOA's fiscal year ending March 2011, earnings are expected to decline 21% to C$0.61/share, but earnings for fiscal year 2012 (beginning in April 2011) should bounce back by ~120% to $1.36/share, driven by higher oil sands spending, which equates to just under 10x earnings. Net cash flow for both years should remain positive, with fiscal 2012 expected at $32 million or C$0.90/share.


3. MEG ENERGY (MEG) – Growth with a monster balance sheet


MEG Energy is a bitumen producer based in Calgary, Alberta with shares traded on the Toronto Stock Exchange. We expect MEG's 2011 earnings to benefit from a full year in operation, a 3% increase in oil sands production lower operating costs per barrel, and expanding margins. With its strong balance sheet, a strategic partner in China's CNOOC owning 15%, debt-to-capital at 21% and net of cash at negative ~13%, we believe MEG is being underpriced by the market by roughly 30%.


The company is sitting on roughly C$1.4 billion in cash -- more than enough to meet its expected net cash flow deficit after capital spending of roughly ~C$600 million for 2011. It is in the growth mode, ramping up production for its next phase of expansion at Christina Lake, with expected start-up in 2013. Based on $85 oil in 2011, MEG's 2011 earnings should top consensus, reaching ~C$0.92 per share, up more than 150% increase from 2010. Should crude oil average $89 in 2011, MEG's earnings could go about 16% higher to ~C$1.06.


You would be remiss not make your energy portfolio “Alberta Bound” in 2011.


Yours in risk management,


Daryl G. Jones

Managing Director


Alberta Bound - 1

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