NY futures continued to rally this week, as May gained another 288 points to close at 77.18 cents/lb.
After a few failed attempts the market finally broke through key resistance today, closing well above the 9-month downtrend line, the January high and the 100-day moving average. Volume was active at more than 45k futures and nearly 19k in options, of which 83% were calls.
Today marked the highest close since December 19 and this may have just been the beginning of a significant spec short-covering move. When we look at the latest CFTC data as of March 12, we see that specs were still 2.16 million bales net short, with outright shorts amounting to 7.43 million bales. It is this outright spec short position that provided the fuel for today’s move and there is probably more to come.
The trade was only 4.91 million bales net short last week and as we have previously stated, we feel that the trade needs to boost its net short position to somewhere around 10-12 million bales over the coming months. However, most of that selling will happen on a scale up basis in December, as producers seek protection against new crop plantings.
Since specs are covering in the spot month and the trade is selling primarily in December, we are seeing this widening inversion between current and new crop, with May settling 185 points over December today and the July/Dec inversion growing to 270 points. With May possibly taking off on short-covering over the coming sessions, there is no telling how distorted these inversions will get, but once the fireworks are over we feel that December will rein the front in again.
The only scenario that would allow for a permanent split between current and new crop is one in which current crop sells out of tenderable inventory over the next three months. This will only happen if China comes to the market to clean up most of the remaining tenderable supply, but we see this as a remote possibility, especially with prices rising. China seems to have enough cotton for the remainder of this season and the widely anticipated production gap will probably not lead to increased imports until later this year or early 2020.
US export sales for last week amounted to 180,900 running bales for both marketing years, with 17 markets getting a piece of the action. Shipments were decent at 366,700 running bales, but still behind the 400k pace needed to make the 15.0 million USDA estimate. Total commitments for the current season have now reached 13.3 million statistical bales, of which 6.9 million bales have so far been exported.
When we look at the US balance sheet, we have total supply at 22.7 million bales (4.3 beginning stock + 18.4 crop), against which there are so far 16.5 million commitments (13.3 export + 3.2 domestic), which leaves 6.2 million bales. However, from that we need to reserve around 2.2 million bales for exports and domestic mill use during the Aug/Oct period, which means that the unsold inventory is probably at around 4.0 million bales.
This number may actually be a bit lower since the most recent classing report suggests that the crop will probably fall short of the 18.39 million statistical bales the USDA currently estimates. To date there have been 16.77 million running bales of Upland and 0.78 million running bales of Pima classed, which adds up to 17.55 million running bales. Depending on what bale weights we use that amounts to somewhere around 18.0 million statistical bales. Therefore, with ginning operations winding down, we feel that we won’t quite reach 18.39 million bales.
So where do we go from here? Today’s move above key resistance has set the stage for a spec short-covering rally, especially if the breakout is confirmed on the weekly chart tomorrow. A lot of these spec short positions are under water now and since algorithms play an important role in specs’ decision making, we expect the market to shoot higher over the coming sessions, possibly into the low 80s.
There will be some overhead trade selling, but more likely in the back months, which could continue to distort spreads. However, once the short-covering has run its course, we expect the front to back down again. At this point there is no reason to believe that current crop will take on a life of its own for more than a week or two. Long-term fundamentals are not bullish, neither from a cotton nor from an economic point of view.
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