Market Comments – November 12, 2015

NY futures continued to move sideways, as December gave up 11 points to close at 61.84 cents/lb, while March added 3 points to close at 62.16 cents.

With the Goldman roll now behind us, the March contract has taken over as the lead month and we shall therefore use its value from here on forward. When we look at the market from a longer-term perspective, we notice that the sideways trend has been narrowing considerably since August. While March has been confined to a broader 60-68 cents range for the last fifteen months, it has spent the last eleven weeks in the lower half of this range between 60 and 64 cents, while closing the last sixteen sessions in a very tight band of just 139 points, between 61.74 and 63.13 cents.

The main feature this week was the USDA supply/demand report, which showed further declines in global production and mill use. Global production was lowered by another 1.75 million, with Pakistan and India both losing 0.5 million bales. Compared to last season world production is now 13.3 million bales smaller at just 105.6 million bales. This is the second lowest global output in 12 years – only the 2009/10-season produced fewer bales at 103.4 million bales.

Global mill use was cut as well, but not by as much as we would have thought. The USDA lowered mill consumption by only 0.7 million to 111.6 million bales, which would still be 1.3 million bales more than last year and 1.5 million bales more than two seasons ago. Based on the pace of business so far this season we have to disagree with this optimistic view by the government and feel that consumption is less than last season, probably somewhere in the vicinity of 107-108 million bales.

The numbers as presented by the USDA were actually quite bullish, especially the ROW numbers. ROW production of 80.63 million bales exceeds mill use of 78.59 million bales by a mere 2.04 million bales according to the government! Last season the seasonal surplus still amounted to 11.6 million bales! Therefore, since Chinese imports are still projected at 5.75 million bales, it would mean that inventories in the ROW are going to be drawn down by more than 3 million bales this season.

Last season ROW stocks rose from 40.3 million bales in 2013/14 to 44.0 million bales, which is one of the main reasons why international prices came under pressure last year. Now the USDA is telling us that ROW stocks are going to go right back down to 40.6 million bales, which is more or less the same stock level we had when futures were trading in the low 90s.

Shouldn’t the market be trading higher on these numbers? Yes, but traders simply don’t believe these demand numbers! As mentioned above, mill demand has been extremely sluggish so far this fall and if we were to adjust ROW mill use down by 3 million bales to 75.6 million bales, then ROW stocks would stay near current levels and maintain the status quo.

Cotton consumption has been facing a lot of headwinds lately. Cheap oil prices resulted in polyester being offered below 50 cents/lb in the Far East and new fashion trends, especially in women’s apparel, have stolen market share away from cotton. In the US athletic pants sold in about equal numbers to denim for the first time last year, as revenue from women’s jeans fell by 8 percent.

This week a number of US apparel retailers reported disappointing same-store sales, blaming warmer than usual weather and less discretionary spending as the culprits, as consumers apparently prefer to pay down debt or spend their money in restaurants. Macy’s shares plunged 14% yesterday after a disappointing earnings report and analysts are warning of a challenging holiday season!

Then there is the growing trend towards recycling of old clothes, as retailers like H&M, American Eagle Outfitters or Levi’s are offering coupons and gift cards for dropping old garment at their stores. Some of these stores are partnering with I:CO (which stands for “I collect”), a German recycling company, which ships donated items to its factories, where salvaged materials are broken down and then spun with new fibers to create various products. This trend started about two years ago and is gathering steam, as companies use this drive towards sustainability as a powerful marketing tool.

So where do we go from here? From a technical point of view the market is still mired in a sideways trend, with little or no momentum. However, the March contract has been forming a triangle, with descending highs dating back to late July and ascending lows dating back to late September. At the moment the lower boundary of this triangle is just below 62.00 cents, while the upper boundary sits at around 63.75. Any break above or below these levels should prompt specs back into action. A breach to the downside seems to be the more likely scenario.

From a fundamental point of view the USDA statistics currently paint a bullish picture, but most traders feel that the numbers don’t reflect the true state of affairs, especially in regards to consumption. Unless demand shows up soon, we feel that the market will start to drift towards the low end of its long-term range, which is at 60 cents. However, given the large trade short position we should see plenty of support on dips, be it from fixations or the sale of basis-long positions, which is why we don’t feel that the market will generate enough momentum to break below its long-term trading range.