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Sugar in coffee: Sweet spot for investors?

A punishing drought in Brazil has sent the prices of sugar and coffee soaring, and some analysts expect the cost of the popular morning stimulant to continue its climb.

May Arabica coffee futures traded on the Intercontinental Exchange (ICE) have risen 69 percent since hitting a four-year low in November, and on Monday rallied to $1.7635 per pound, its highest level since October 2012. Raw sugar contracts traded on the exchange, meanwhile, saw their biggest one day rally of 4.1 percent in nearly five months on Monday, jumping to 17.41 cents a pound.

Jonathan Barratt, chief investment officer at Ayers Alliance, told CNBC Asia's "Squawk Box" on Monday that extreme weather conditions in Brazil and India have dramatically altered the supply/demand dynamic in the global coffee and sugar markets.

"Coffee and sugar - in fact all soft commodities - are looking good. We can expect surpluses to be sucked up and prices to go higher," said Barratt.

(Read More: K-Cups protected from coffee price surges: Green Mountain CEO)

Brazil, the world's leading exporter of coffee and sugar, along with soybeans, orange juice and beef, has faced its worst drought in history in recent months, wiping out farmers' crops and leaving six million people with rationed water supplies across 11 Brazilian states. This January was the country's driest in six decades.

Extreme weather in India, meanwhile, has also impinged on global sugar production, after five cyclones hit the eastern coast of the country last year shutting down several sugarcane factories. Last week the International Sugar Organization warned that global output could fall for the first time in five years in 2014.

(Read More: Nespresso takes a sip of US coffee market)

Ayers Alliance's Barratt told CNBC that there was further upside to come.

"If we get no break in the weather, $2.20 per pound is the next level in coffee and for sugar, 19.50 cents a pound. I remember in 2011, coffee was trading at $3.00 and sugar was at 35 cents, so any major disturbance to supply we expect more gains to come," added Barratt.

Anthony Dawson | Flickr | Getty Images

But Luke Chandler, global head of commodities research at Rabobank, told CNBC Asia's "Cash Flow" on Monday that he believed much of the potential upside in coffee prices to have been largely priced in.

Last week speculators more than doubled their net long positions in Arabica coffee futures for the week ending February 18, the largest gain since May 2011. Meanwhile, investors in raw sugar cut their net short positions by 22 percent over the same period, Commodities Futures Trading Commission (CFTC) data showed.

(Read More: What a coffee bull market means for your latte)

"Our expectation is that the damage that's done to the crop has already been factored in. We think in the short term there's likely to be some easing in coffee prices. With this rally that we've seen 70 percent is a big run up [and] a lot of speculators have jumped on board [with] this weather scare, so we think it's overdone," he added.

Chandler was more positive on sugar prices in 2014, however, although he also expects them to ease in the short term, he said they would rally later in the year.

"Sugar is probably one of the markets we're most bullish on over the course of 2014, we certainly see some upside moving into the second half of the year as prices get back closer to 19 cents a pound. As the global supply and demand comes back into balance, we draw down some of those global stocks and we see some upside for prices," he added.

Scientists expect the drought in Brazil to worsen, leading to many coffee plantations being forced to close and reducing the country's coffee crop by 10 percent by 2020, according to media reports.

(Read More: Hotel survey: guests prefer coffee to sex)

Another factor impacting coffee prices is rising demand. China, the world's second-largest economy is developing a taste for coffee, leading coffee chains Costa and Starbucks to expand rapidly in the country.

— By CNBC's Katie Holliday: Follow her on Twitter @hollidaykatie

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