NY futures continued to recover this week, as December gained 124 points to close at 78.05 cents.
December spiked higher last Friday and then briefly followed through on Monday, but after posting a high of 79.16 cents, the market started to drift lower again. However, we don’t read too much into the market’s weakness over the last three sessions, as most decision makers were away at the annual ICA dinner in Hong Kong this week.
The market seems to be torn between a potentially bullish supply scenario and the threat of declining mill use as a result of the recent turmoil in emerging and financial markets. In other words, it is quite difficult to get a good grip on the global supply/demand situation at this juncture, which is why the market can’t seem to make its mind up.
US cotton production has clearly suffered a big setback in both quantity and quality due to the two hurricanes in the Southeast and the persistently rainy weather in other parts of the cotton belt. The Southeast, which was expected to produce 5.6 million bales in the latest USDA estimate, seems to have lost at least a million bales, although we believe that the crop potential was probably closer to 6.0 million bales before the storms hit and we therefore estimate the Southeast crop at around 4.8-4.9 million bales.
However, quality has suffered greatly as well and we don’t expect many premium grades to come out of the Southeast this season. It has also been quite wet during harvest in pockets of the Delta and South Texas, and most recently we had to deal with a freeze in the Northern Texas Panhandle. The bulk of the irrigated crop around Lubbock still seems to be in decent shape, but it is currently raining there as well and we shall have to wait and see how that crop makes it out of the field.
In short, the US is currently looking at a crop of around 18.8-19.0 million bales with lower than average quality. Against that we have above average commitments of 13.2 million bales (9.8 export + 3.4 domestic) and it is therefore no surprise that additional export sales have been so slow recently.
Last week the US export sales of Upland and Pima cotton totalled 61,900 running bales net, with 14 markets buying and 23 destinations receiving shipments of 141,600 running bales. As mentioned above, this brings total commitments for the current season to 9.8 million statistical bales, of which 1.9 million bales have so far been exported. Sales for the coming marketing year are currently at a little over 1.8 million statistical bales.
The market sold off in reaction to the ‘disappointing’ sales number this morning, but as we have stated before, when we look at the large amount of commitments and the uncertainty in regards to the quality of the crop, who would want buy or sell any more cotton before the crop has been collected, classed and applied to existing sales. We believe that it will be quite a struggle to match up arrivals with sales and for this reason the certified stock, which currently amounts to just 24,931 bales, might become a source of supplies for shippers. We feel that the market underestimates this factor and if it weren’t for the worries about mill use and the seemingly relentless spec selling, the market would already be back above 80 cents.
The latest CFTC spec/hedge report of October 9 showed that speculators were light net sellers, reducing their net long by another 0.09 million bales to 3.50 million bales. Index funds sold 0.07 million bales to trim their net long to 7.82 million bales, while the trade was on the other side buying 0.16 million bales to cut its net short to 11.31 million bales.
Interestingly, the outright trade long position of 9.78 million bales is the largest since April 2011. That’s over 2.3 million bales more than in early August, when the market started to fall from 90 cents. It also explains why open interest has remained relatively steady, as new trade longs have replaced departing spec longs. The fact that the trade reduced its net short position not only by buying back shorts (mainly due to mill fixations), but also by adding that many new longs, should be seen as a warning sign by the bears.
So where do we go from here? We feel like we are in a bull market with the hand brakes on. There are plenty of reasons to be friendly, but there is this fear that something bad is going to happen on the demand side. It is as if the market was telling us ‘never mind a couple of million bales less production, mill use is going to drop by a lot more than that’. Whether trade wars, emerging market problems and stock market jitters will indeed cut into the demand side remains to be seen, but we’d rather be long than short going into the December notice period at current prices.
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