Market Comments – December 22, 2016

NY futures came under some pressure this week, as March dropped 147 points to close at 70.20 cents.
Last week the market tried to break out to the upside from a 4-month triangle formation, and after that failed, it tried the other direction this week, which didn’t work either. From a broader perspective the market closed today right in the middle of a 67-73 cents trading range, which has been in force since early September.
It is therefore not surprising that volatility has crashed this week, going from a reading of around 21% to just around 17.5% in the March contract. This signals that traders don’t see prices straying far from current levels. The premium for the 70 cents ‘straddle’ in March, which is the simultaneous buying of a put and a call option, was worth just around 350 points at today’s close, which implies that traders don’t see the market break out from its current trading range over the next couple of months.
The latest available on-call report as of last Friday, December 16, showed that mills continued to increase their unfixed balance by over 500,000 bales to 10.8 million bales overall, of which 4.30 million are on March, 2.29 million are on May and 1.95 million bales are on July. This is the largest unfixed amount since the November 2010 record, when 12.1 million bales were open. Some of this cotton may have been fixed this week when the market broke below 70 cents, but with mills still buying basically all new business on-call, we don’t think that the balance has improved by much.
The CFTC report as of December 13 revealed that both the record spec net long position and the large trade net short continued to get bigger from Dec 7-13. Specs added another 0.16 million bales, with the total net long expanding to 11.48 million bales, while the trade increased its net short by 0.12 million to 17.97 million bales. Since futures open interest dropped during this week’s selloff, we expect these positions to be slightly smaller in the next report. 
US export sales continued to impress, as 282,800 running bales of Upland and Pima were sold. This brings the total for the last 3 weeks to 1.08 million bales! Once again we saw broad-based participation with 19 markets buying and 23 destinations receiving shipments of 230,300 running bales. Total commitments for the season are now at over 8.5 million statistical bales, of which 3.6 million bales have so far been shipped.
With prices dipping below 70 cents this week and US high grades being offered below 1000 on landed Far East, we expect to see another decent export sales report next week. The lack of carrying charges is apparently providing an incentive for merchants and coops to part with their cotton as soon as possible, which would explain the 200-point drop in the US offering basis over the last four weeks. 
So where do we go from here? The market remains boxed in for now, with the upside being contained by residual producer selling and the inability by specs to add a lot more to their net long, while the downside sees solid support from trade fixation buying and short-covering in connection with basis-long sales by merchants. 
What might eventually break the stalemate? We need to keep an eye on the US dollar, which continues to hover near a 14-year high. Further USD strength would be bearish for commodities, while dollar weakness would be supportive. A pick up in inflation is another factor that could give commodity prices a boost. Statistically we have the second season in a row with a global production gap and this trend is likely to continue next season. Although some origins, including the US, expect to see a further increase in acreage, we also deal with a “La Niña” weather pattern, which could negatively impact yields. 
On balance we feel that there are more potentially supportive factors going forward and we therefore see the downside as fairly limited. Sideways in the foreseeable future – higher at some point down the road!



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