NY futures ran out of steam this week, as May dropped 64 points to close at 57.72 cents/lb.
After closing at a one-month high of 58.39 cents on Wednesday, the market was unable to push beyond the 58.50 cents resistance area and sellers regained control of the market today. Recent price action has formed an ascending flag pattern on the chart, which is defined by resistance at around 58.50 and an uptrend line dating back to the spike low of February 29, with today’s session low falling right on that uptrend line.
Speculators continued to expand their record net short position last week by another 0.4 million bales to 4.4 million bales net short, according to the latest CFTC report, which reflects positions as of March 15. This was mainly the result of long liquidation, as outright spec longs cut their holdings by 0.5 million to 6.2 million bales long, while outright spec shorts reduced their position by 0.1 million to 10.6 million bales short.
Meanwhile the trade reduced its net short to one of the smallest positions in years at just 2.5 million bales net short, while Index Funds remained the only net long in the market at 6.9 million bales. This relatively small net short position by the trade supports the notion that there isn’t a lot of current crop cotton that needs to be protected anymore, while new crop hedging hasn’t really started on a larger scale yet.
US export sales for the week of March 11-17 slowed to 145,000 running bales of Upland and Pima cotton combined due to slightly higher prices, although shipments were strong at 222,000 running bales. Participation was once again broad-based with 17 markets buying and 23 destinations receiving US cotton. For the current season we now have commitments at 7.7 million statistical bales, of which 4.7 million bales have so far been exported. About 3.0 million statistical bales remain unshipped at this point.
We are somewhat puzzled by the nonchalant attitude by most traders and mills in regards to remaining ROW supplies, especially for better grades, which are expected to get rather tight by the third quarter. According to the USDA, ending stocks in the ROW will drop to just 38.8 million bales by the end of July, down from 44.3 million a year ago. This is not surprising, since the world produced nearly 18 million bales less this season and quality has been inferior on top of it. By contrast, mill use has held up relatively well, as it is estimated to be down just 1.1 million bales from last season.
However, even though the ROW stocks-to-use ratio is projected to be the second lowest in 12 years, many commentators feel that the market doesn’t have much upside from here. The massive stocks in China, some of which are about to be auctioned off to its domestic market, seem to be at the root of this lackadaisical attitude. Most traders tend to agree that without these stocks in China the market would be a lot higher!
But are these Chinese reserve auctions really going to be such a game changer? The main fear seems to be that these auctions will flood the Chinese market with cheap cotton that will boost local mill use and curb yarn imports from countries like India, Pakistan and Vietnam. So far this season China has imported 1.12 million tons of yarn in the seven months since August, which is slightly ahead of last season and calculates to an annualized figure around 1.92 million tons. Including a waste factor of about 6% this equates to some 9.34 million bales of cotton.
Although yarn imports by China may get capped or may even drop slightly going forward, we don’t see a strong revival of the Chinese spinning industry anytime soon, other than in Xinjiang where new capacity is being added. This week the Chinese Reserve (CNCRC) indicated that it would make around 4.6 million tons or 21 million bales of 2011 and 2012 cotton available for auction, which seemed to spook the market. However, we believe that China doesn’t intend to dump its reserve cotton at throwaway prices and instead will feed it to the market little by little over the next five seasons. In other words, we don’t expect Chinese mills to suddenly gain a huge competitive advantage that would shut down yarn imports in short order.
So where do we go from here? We feel that market has been lulled into a false sense of security, disregarding a rapidly tightening ROW balance sheet as we head into the second and third quarter. Yes, China has a lot of stocks, but these stocks won’t be there to supply mills in the ROW and as of now China is still a net importer of cotton and yarn, meaning that they are contributing to the tightness in the ROW rather than alleviating it.
With still 6-7 months to go until new crop, we would advise mills to book all their remaining needs until October without any further delay. Those who don’t want to commit to a price at this time should buy on-call and secure the qualities they need, because otherwise they may find themselves in a game of ‘Musical chairs’ in a few months from now!
We remain friendly on May and July because of a tightening ROW supply picture and a record spec short position, while we are neutral on new crop until we get a better grip on what is being planted.
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