Ethanol has come of age.
Once considered an expensive experimental additive to make gasoline burn cleaner and more efficiently, it has become a staple like soybeans, eggs and pork bellies.
So much so that the New York Board of Trade plans to introduce a futures contract for sugar-derived ethanol on Friday and an options contract next week. The Chicago Board of Trade plans to introduce a futures contract for corn-based ethanol late this year.
Ethanol is an alcohol-based alternative fuel produced by fermenting and distilling starch crops, such as corn and sugar, which have been converted into simple sugars. Over 60 percent of the world's supply of ethanol is derived from sugar, with Brazil the industry's leading player. Domestically, ethanol has grown into a $4 billion to $5 billion industry that is expected to produce more than 3. 3 billion gallons this year, up from 2. 81 billion gallons last year.
"The commodity is big enough and important enough in the economy that consumers and producers have come to us and asked us to develop a futures contract for this market," said David Lehman, managing director of business development for the CBOT.
Futures trading in ethanol, derived in the U. S. primarily from Midwest corn, could reduce the cost to users through more efficient hedging and pricing.
A recent spike in U. S. ethanol demand has triggered price hikes and fluctuations, creating an industry clamor for the futures contract, a tool that could reduce volatility.
A future is an exchange-traded contract that requires delivery of a commodity, bond or currency at a specified date and price. Unlike a future, an option gives the right, without an obligation, to buy or sell a contract at a specified price on or before an agreed-upon date.
"There isn't an existing effective risk-management tool for this market, so the buyers and sellers of ethanol are forced to use other tools," Lehman said.
The only tool currently available to traders is the unleaded gasoline futures contract traded on the New York Mercantile Exchange, which is considered an imperfect hedge.
"From an economist's perspective, these types of financial instruments are very important in providing liquidity and transparency in prices," said John Felmy, chief economist for the Washington, D. C. -based American Petroleum Institute, an industry trade group. "It's an important addition for buyers and sellers," Felmy said.
Farmers should benefit
Bernard Avaiko, a NYBOT economist, said farmers would be among the beneficiaries of the first futures contract for ethanol.
"Farm cooperatives don't have a way to protect themselves from adverse price fluctuations," he said. "They don't know what the price of ethanol will be down the road. It's difficult to plan a business when you don't know what the value of your finished product will be. "
Anthony Compagnino, a NYBOT floor trader and senior vice president of East Coast Options Services Inc. , said the introduction of futures contracts was essential.
"It will attract some speculator business, a facet that will help make the market more efficient," Compagnino said. "If you only have producers and end users trading the risk, they are only sharing the risk between themselves. You certainly want as many players in the market as possible."
Demand will increase because of tougher pollution requirements worldwide and continued Middle East turmoil, said Mike McDougal, senior vice president at Fimat, an international brokerage unit.
"India, Thailand and Australia all are starting sugar-cane ethanol programs; they see the success of Brazil," said McDougal.
Because the additive is in such demand during the summer driving season as a component to make reformulated gasoline required under the Clean Air Act, motorists in the U. S. also could benefit in the form of lower prices at the pump.
One of the two major drivers of ethanol growth in the U. S. is state bans on MTBE, a petroleum-derived oxygenate, which California, New York and Connecticut put into effect Jan. 1. The states switched to ethanol over concerns that MTBE pollutes groundwater.
California, which introduced ethanol-blended gasoline last year, will use 950 million gallons of ethanol this year. New York and Connecticut combined will add 500 million gallons of demand for ethanol.
Providing value The second factor is is sky-high prices for petroleum products, which have made ethanol a great value for refiners seeking enhanced octane. "We have seen ethanol use go up from coast to coast as result," said Monte Shaw, spokesman for the Renewable Fuels Association.
The ethanol provision of the stalled federal energy bill would require use of 5 billion gallons of renewable fuel, mostly ethanol, by 2012. That represents a more than 50 percent increase.
Even without the bill, new ethanol markets are likely in Baton Rouge, La. , and Atlanta, which will begin ethanol use next summer, Shaw said. The biggest growth would come if Pennsylvania, Massachusetts and New Jersey would move to ban MTBE, which doesn't appear imminent, Shaw said. Nevertheless, Felmy expects continued higher usage as a result of current energy policies. "As more and more states ban MTBE, the only practical alternative is ethanol," he said.
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