Market comments – September 1, 2016

NY futures closed the week little changed, as December edged up just 14 points to close at 68.18 cents.
The market was under pressure for most of the week but found strong trade support at 65.50 cents, from where it managed to stage an impressive comeback after another strong export sales report encouraged buyers to step in.
US export sales for the week that ended on August 25 amounted to a combined 362,600 running bales of Upland and Pima cotton for both marketing years. Vietnam, Pakistan and China were leading a list of 20 buyers, while 21 destinations received shipments of 212,400 running bales.
Total commitments are now at 4.6 million statistical bales, which compares to 2.9 million bales a year ago, whereas shipments are so far at 0.8 million statistical bales. Since prices were even lower this week, we expect to see another constructive export sales report next Friday!
As already mentioned last week, it was quite odd to see the market break important support levels without speculators becoming more active. Although the market continued to trade lower for most of the week, it did so in relatively low volume. In other words, there was nothing to suggest that specs were in any great hurry to get out of their longs or that they were keen to put on new short positions.
The latest CFTC report as of August 23 showed that speculators did not reduce their overall position by as much as we had anticipated. Specs were still 8.3 million bales net long, down only 0.4 million bales from the week before. This could be interpreted in two ways, namely that specs still have a lot more selling to do (=bearish) or that the longs are digging in and are not giving up that easily (=bullish). Based on this week’s action we assume the latter to be the case.
While specs seemed to take their time getting out of longs, the trade was keen to buy back shorts once the market traded below 66 cents. We saw a significant increase in fixation orders on Tuesday and Wednesday, with a considerable amount of scale down buy orders being posted, which added underlying support. Mills were also buying cotton on a fixed-price basis this week, which triggered additional futures buying by merchants.
As we had mentioned last week, it all depends on who has a greater sense of urgency to act at any given moment, and it became evident that the momentum started to shift back to the buy side once prices had reached the mid-60s. From a fundamental point of view the market has value at that level and trade participants are therefore ready to fix and/or buy.
While support seems to be well defined, how about resistance? When the market ascended into the mid-70s during the first half of July, there was still a lot of uncertainty in regards to supply, as both West Texas and Gujarat were experiencing dry conditions, which threatened to shave several million bales off the ROW balance sheet.
This is no longer the case, as West Texas received beneficial rainfall in recent weeks and the US crop as a whole seems to make the USDA estimate of 15.9 million bales. The same goes for India, where better yields are apparently offsetting lower plantings, with the crop expected to be around the same level as last year. Australia is another area that has seen good rains lately and a crop of somewhere between 3.5-4.0 million bales is now a possibility.  
That means that a lot of the uncertainty on the production side has been removed and with harvest around the corner, it is now more a question of quality rather than quantity.
While supply is probably not going to change too drastically from current expectations, demand is still a bit of an enigma, particularly when it comes to China. Who would have thought that China would sell well over 2 million tons of its reserve stocks with such ease at quite elevated prices, while also remaining an active importer of yarn and cotton? There is really only one logical conclusion, namely that mill use in China has been stronger than we gave it credit for. China continued to be a strong buyer of domestic as well as imported cotton this week!
So where do we go from here? Over the last two years cotton prices have spent most of their time in a 60-68 cents range, with the exception of a few short spikes below 60 cents and the recent rally above 68 cents. Mills have become quite accustomed to prices in the mid-to-low 60s and we therefore expect to see very strong support in that area.  
Given the fact that pipeline stocks in the ROW have been tightening considerably over the last two years and that we are now facing the second season in a row with a global production deficit, we can easily make an argument for a slightly price range than the one we have been in. We therefore feel that in the short-to-medium term prices in a 66-72 cents range are justified.
When we look further down the road we will probably have another season, maybe two, during which China continues its destocking process while keeping imports relatively small. However, there will come a time at which China is going to need more cotton from the ROW and once that happens the market will likely adjust to a higher price plateau. This scenario is probably still 18-24 months down the road, but it is slowly but surely starting to creep into the minds of traders.



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