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With sovereign debt issues continuing to wreak havoc across the euro zone, many investors have piled into the relative safety of U.S. dollar in order to avoid the storm. This ‘flight to quality’ has had a devastating impact on a variety of commodities which are usually priced around the world in U.S. dollars. Among the hardest hit in recent weeks has been sugar, which has been assaulted by a stronger dollar and robust supplies in two of the biggest producers of the commodity; Brazil and India.

On Friday, sugar prices fell the most in three weeks as traders speculated that Brazil would report a a substantial increase in its sugar production after the nation revealed a record amount of sugar cane was harvested earlier this year. Meanwhile in India, production is expected to shoot higher from 18.5 million tons a year earlier to 23 million this year.

This rapid increase in supply is not surprising given the state of the sugar market last year. In 2009, sugar prices nearly doubled; as a result many farmers decided to grow more of the crop, which ultimately helped to send prices lower this year. This can be best seen in Brazil where by some estimates 200 million tons of cane have been added to capacity over the past five years. “That’s an Australia every year being added to this industry,” said Andy Duff, manager of Food and Agribusiness Research and Advisory at Rabobank, referencing the fact that the industry in Brazil alone adds capacity equal to the 8th biggest sugar producer every year. Obviously such large increases in cane production was bound to have an effect on sugar prices (see our Definitive Guide To Sugar ETF Investing).

After a huge run-up in prices last year which saw sugar nearly double, prices have been slumping in 2010. Sugar exposure is currently available in ETN form through the iPath Dow Jones-AIG Sugar Total Return Sub-Index ETN (SGG); the fund was down more than 6% on Friday and is down a whopping 46.5% thus far in 2010. Over the past three months SGG has produced an incredibly bad return losing 41.5%, by far one of the worst performers in the Commodities ETFdb Category.

Disclosure: No positions at time of writing.

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Source: Supply Glut, Strong Dollar Crushes Sugar ETF