Market Comments – March 12, 2015

NY futures continued their slide this week, with May giving up another 201 points to close at 61.22 cents.

The market continued its search for a bottom this week, as the disequilibrium created by spec long liquidation into selective scale-down trade buying has put additional pressure on values.

Speculator bought a massive 8.2 million bales net in matter of just five weeks between late January and late February, which lifted the market by over 800 points to a high of 66.24 cents on February 26. However, since then a lack of follow-through buying has prompted the market to reverse into a well-defined downtrend that has so far added up to more than 500 points. The drop in May open interest, which has gotten more pronounced this week, is confirmation that speculators have been liquidating some of their recently acquired long positions.

The trade, who boosted its net short position to 10.7 million bales last week, has been patiently waiting for the spot month to fall towards the 60 cents level before getting more involved on the buy side again. Over the last couple of days we have detected an increased level of activity by mills, be it to fix some of their outstanding on-call contracts or to buy some of the remaining basis-long positions. In other words, we seem to have reached a level at which the trading action has become more two-sided.

US export sales of 144’300 running bales of Upland and Pima for both marketing years combined weren’t too bad considering that the May contract traded between 63.00 and 65.50 cents during the week ending March 5th. Once again there was wide participation with no less than 18 markets on the buyers list. There were a few more cancellation out of Turkey and China, however in the case of the latter we have learned that at least some of these cancellations were initiated by the seller due to a lack of suitable high grades.

Total commitments for the current marketing year remain at around 10.0 million statistical bales, while sales for the 2015/16 season now amount to 0.9 million statistical bales. Shipments were once again strong last week, with over 320’000 running bales leaving the country, thereby lifting total exports so far to 5.2 million statistical bales.

The strengthening US Dollar has played an important part in depressing commodity prices recently. This week the greenback rallied to multi-year highs against nearly all currencies, with the US dollar index trading above 100 for the first time since April 2003! This is making imports of dollar-denominated products more expensive for the rest of the world and this trend may have further to go!

In our opinion there are several factors that have worked in the dollar’s favor in recent months. One of the more influential ones is probably the yield spread on 10-year treasuries, which has shifted dramatically in favor of the US, with the spread between German (0.3% yield) and US bonds (2.1%) reaching an amazing 1.8%. Even more laughable is that bond yields of debt-ridden countries like Italy (1.1%), Spain (1.2%) or Portugal (1.6%) are significantly below those of US treasuries. Yields in these economies are now at the lowest level in over 500 years!

These manipulated rates are the result of central bank money printing and debt monetization (bond buying programs), with the Federal Reserve, the Bank of Japan and the European Central Bank taking turns in running their printing presses. With the US taking a time out from QE, it is now the ECB that is engaging in a massive bond-buying scheme, which is resulting in these depressing yields. Add political and economic headwinds in Europe to the mix and it becomes clear why the money crowd prefers to leave the Euro in favor of the US Dollar.

However, we believe that this central bank merry-go-round will continue and that later this year it will be the US that will once again have to engage in another round of money printing. Recent US jobs data may provide the illusion that all is well in the US economy, but if one cares to dig a little deeper, the reality doesn’t look nearly as rosy. The labor participation rate is near the lowest level in four decades and many of these newly created jobs are part-time, as employers are trying to replace full-time employees with part-time workers in order to circumvent new health care provisions under Obama care.

What we are trying to say is that the US economy is nowhere near the point at which it can leave the central bank crutches and that even bigger monetary infusions will become necessary to stave off deflationary forces and recession.

So where do we go from here? After a correction of nearly 600 points the market seems to be regaining its footing, as trade buying is starting to resurface. Considering that the market broke through the 61.00 cents support level without triggering an avalanche of additional spec liquidation leads us to believe that the worst of this selloff may be behind us. The next two or three sessions should tell us whether this is indeed the case.

Although the May notice period is still about six weeks away, the shorts shouldn’t ignore the fact that the certified stock has dropped to just 7’000 bales this morning and that declining prices won’t bring additional bales to the board. As we have stated before, US high grades may already be fully committed, leaving only non-tenderable qualities available for sale. For this reason we believe that both May and July still have a decent chance to rally into the mid-to-high 60s before their respective expirations and we also feel that current crop futures will eventually invert over December. We further need to watch the US dollar in all this, since it has the power to alter the above-described scenario.