Can the Brazilian ethanol industry stimulate weak demand?

Expectations Of A Deficit Dashed By High Prices And Producer Stockpiling: Contrary to expectations, the Brazilian ethanol market is unlikely to face a deficit in 2010/11 as was the case a year earlier.

Instead, high prices in Brazil, driven by producer stockpiling, are preventing demand from recovering and as a result, the Brazilian market could find itself with larger than expected ethanol stocks at a time when supply was forecast to be in short supply.

* An acute shortage of ethanol in the off-crop period led to demand destruction as prices reached a peak of R$1.20 / litre ex-mill in São Paulo state, which pushed pump prices above the 70% indifference level with gasohol. This was followed by a crash in prices to R$0.75/litre at the start of April.

* Consumption has since bounced backing the wake of the price crash but has struggled to reach the peak levels seen last year. In the first quarter of 2010/11, total domestic hydrous sales by CS mills were 2.5% lower than in the corresponding period of the previous crop year.

* The unexpectedly low consumption figures have raised serious questions over whether Brazilian fuel ethanol demand will increase as expected, despite the continuing expansion of the flex-fuel fleet, which has moved closer to 50% of the total car fleet.

* CS Brazil producers have managed to hit peak crushing with relative ease with record volumes of ethanol produced. This new supply has led to the building of inventories at a larger than usual pace due to the weaker demand, but this has not had the impact many would have expected, as the domestic market remains firm and has recently hit a 4-month-high of R$0.84/litre ex-mill in São Paulo state (net of taxes).

* A large volume of ethanol has been put into storage, and while this stockpiling programme has provided a welcome boost to values it could potentially prove to be counter-productive as it runs the risk of creating an over-supply scenario in the off-crop.

* Given the slow pace of demand seen so far, and the increasing cost of hydrous ethanol at the pump, demand from the ever-expanding flex fuel fleet has yet to have its potential realised. If this scenario persists through the coming months, CS fuel ethanol demand could struggle to reach our forecast of 22.5bn litres, which though 11% higher than 2009/10 is less than had been expected.

* The Brazilian export market has struggled, with limited activity during 2010/11, as it has been unable to compete with the US, which has turned from a net importer to an exporter. We forecast 2010/11 exports to halve compared to last year’s volume of 3mn cbm.

* The outcome of the EPA’s decision to increase the ethanol blending limit in gasoline above 10% will determine whether the US continues to play a large role in global trade. If there is a positive outcome, the US could potentially withdraw from the export market and Brazil could start to regain some of its traditional markets

Henry Toller, analyst at Czarnikow, said: “The Brazilian ethanol industry seems unlikely to face an ethanol deficit in 10/11 similar to that experienced last year. Recent producer stockpiling, assisted by government backed stock financing should lead to sufficient supply throughout the off-crop period. Additionally, Brazil has been blessed with good weather this season, which has enabled the industry to advance the harvest. Furthermore, high domestic ethanol prices have slowed the growth in demand and this could see the market well supplied in the latter part of the year.

“The key remains the price elasticity of domestic consumers and the ability of prices at the pump to regulate levels of demand and potentially drive consumption should off-crop stocks become too large.”

source: commodities-now