Market Comments – February 4, 2016

NY futures remained under pressure this week, as March lost another 113 points to close at 60.23 cents.
Despite two encouraging US export sales reports, another downward revision of the Indian crop and a weakening dollar, which should all have added support to the market, a worsening macro environment and the anticipated negative impact from Chinese reserve sales kept buyers on the sidelines. 
As the market drifted lower, March eventually slipped below near-term support at 60.70 cents, which in turn triggered another round of sell stops. Volume was extremely heavy at 59,216 contracts, considering that the index fund roll period hasn’t even started yet. The next pivotal level the market is focusing on is major support at 59.45 cents, which marks the March contract low set in late September.
Let’s talk about some good news first! Since last Thursday we got two constructive US export sales reports, which added nearly half a million bales of net new sales of Pima and Upland cotton. Last Friday’s delayed report for the week ending January 21 showed net new sales of 227,300 running bales for both marketing years, while today’s report for the week ending January 28 added another 269,600 running bales to the tally. 
Participation was broad-based, with 22 different markets securing their share of US cotton during this two-week period. Shipments finally picked up their pace as well, as 407,500 running bales were exported between January 14 and 28. With the current season at the halfway mark, total commitments now amount to 6.3 million statistical bales, of which 3.2 million bales have so far been exported. 
This leaves just 3.7 million bales to sell and 6.8 million bales to ship over the next six months in order to make the current USDA estimate of 10.0 million bales. Given the tight global supply situation this season, we have little doubt that this target will be reached or surpassed. For the 2016/17 marketing year sales are now at just under 0.9 million statistical bales, which is 0.2 million bales ahead of last year.
India’s Cotton Advisory Board lowered its crop estimate further this week to just 35.2 million local bales, which corresponds to 27.5 million statistical bales. While the USDA is currently at 28.0 million bales, we have heard private estimates as low as 26.5 million bales. It is therefore likely that there will be another downward revision in the USDA estimate next week. 

Next Tuesday’s USDA numbers are expected to show a further tightening of an already tight ROW balance sheet. The January numbers showed that mill use outside the US and China was exceeding production by 10.0 million statistical bales this season. Since China is still expected to be a net importer, this shortfall has the potential to grow to as much as 15 million bales. US exports of 10.0 million bales will help to fill this hole to some degree, but unless China becomes a strong exporter before the end of July, ROW ending stocks are going to be drawn down substantially. 
However, in the current “risk-off” environment traders don’t seem to care what happens six months down the road and are instead focusing on the here and now. This week we saw further signs of a potential ‘credit event’ in the making, which has traders across all asset classes worried.
Last week the Bank of Japan surprised the market with its move to negative interest rates (-0.1%), after BOJ Governor Kuroda had stated just two weeks earlier that he would not consider such an option. The Bank of China injected about USD 130 billion of new liquidity into the system since last week in order to shore up its market and to combat short sellers. All these attempts seem to be a desperate and probably futile attempt to fight deflationary forces in order to keep credit bubbles inflated. 
However, bond traders are becoming increasingly wary about the effectiveness of central bank policies and are seeking protection against sovereign and corporate debt via Credit Default Swaps (CDS). The cost of insuring Chinese sovereign debt and European banks has risen to the highest level since the middle of 2013, as fear of another financial fiasco is increasing. 
While European and Asian central bankers are in monetary easing mode, the Fed is still stubbornly defending its move towards a tightening policy. However, given the recent disappointing US economic data, we believe that it will be just a matter of time before the Fed has no other choice but to join its overseas counterparts. Based on the sharp drop in the US dollar this week the currency markets seem to be calling the Fed’s bluff!
So where do we go from here? The Chinese reserve announcement can’t come soon enough in our opinion, because it seems to stall any decision making at the moment. The lack of buying by the trade due to China as well as hedge funds pulling in their horns for fear of a financial calamity have allowed the market to drift lower. This has started to unleash bearish forces as the market is now challenging major support. It seems to be a foregone conclusion that we will test the 59.45 contract low before too long and unless something prompts buyers to return from the sidelines, we might go another 2-3 cents lower in short order. 
From a fundamental point of view the market seems cheap enough given the tight ROW balance sheet, which leads us to believe that the current bear move will eventually lead to a decent buying opportunity.  


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