NEW YORK (HedgeWorld.com)–The New York Board of Trade introduced ethanol futures and options, to trade alongside sugar contracts, in response to the growing market for the environment-friendly gasoline additive.

Energy trading companies, oil refiners, gasoline blending and marketing firms as well as ethanol producers are expected to use the contract for hedging and making bets on price movements.

Demand for ethanol is projected to double by 2010, largely because of new laws being passed by various countries to reduce pollution and dependence on oil. Until the introduction of this instrument, futures for the alternative fuel existed only in Brazil.

“This contract is needed,” said NYBOT President and Chief Executive Harry Falk, in a speech during the launch ceremony. He noted that the ethanol contract is a mirror image of the NYBOT sugar contract.

Volatility

Like any futures contract, the ethanol contract will be used either to lock in prices on prospective sales or purchases or to speculate on the direction of future price changes or price relationships, according to Ira Kawaller, a commodity trading adviser in Brooklyn, N.Y.

Mr. Falk says there is interest from gasoline blenders to use the contract to hedge their ethanol costs. The price has been volatile in the past year, creating more risk for users, so some of them would prefer to lock it in. He expects that eventually ethanol futures will become another component of the energy market.

Traders can take advantage of differentials between the prices of ethanol and sugar as these change, said Jeanette Schwarz Young of JA Schwarz Market Analytics. She trades sugar and financial futures on NYBOT.

If ethanol becomes more popular, its price would rise faster than the price of sugar and there may be inefficiencies ripe for arbitrageurs. A study has shown a correlation of nearly 70% between the prices of ethanol and sugar.

“Nobody has a good pulse on how to price ethanol futures,” said Anthony Compagnino, principal of East Coast Options Services Inc. and a NYBOT member. He will trade the contract, which may establish a global benchmark price.

Corn vs. Sugar

Corn and sugar cane are the commodities commonly used to produce ethanol. The NYBOT contract is for the sugar-based version. Brazil, a big producer with half its sugar cane output dedicated to making ethanol, is one of the nine countries that will deliver for the contract.

“We can produce it now on an extremely competitive basis with gasoline,” said Eduardo Pereira de Carvalho, president of Unica, a Brazilian sugar trade group. If there were no U.S. tax on imports, gasoline blended with sugar-based ethanol would be cheaper than other gasoline, he added.

American Midwestern states produce corn-based ethanol and the U.S. duty on ethanol imports protects those producers. But the import tax adds to the price of gasoline and Congress is expected to review it, especially if complaints mount of high prices at the pump.

Trends are the same for corn vs. sugar-based ethanol but the prices are different, one being more of a U.S. market while the other is worldwide, according to Mr. Compagnino. Later this year the Chicago Board of Trade is expected to introduce futures for corn-based ethanol.

How the new contract will relate to gasoline futures is to be seen, Ms. Young said. It depends on how many states require blending with ethanol, how much corn-based vs. sugar-based ethanol is used and other factors.

Mr. de Carvalho said Brazil mandates a 25% blend of ethanol with gasoline. In the United States this requirement is set by states and varies between 5% and 10%.

CKurdas@HedgeWorld.com