Markets don’t like uncertainty and at the moment there is plenty of it, which is why we believe that speculators will continue to reduce their net long holdings, while mills will continue to fix on a scale down basis.
From a technical point of view the market has broken through all kinds of important support levels this week, starting with the long-term uptrend line at around 8400 and then the July low of 8175. The last line in the sand is the 200-day moving average at just over 7900, which is often used as an important tool by long-term speculators. So far spec liquidation has been moderate, as open interest has only declined by about 10k to 261k, but the market needs to quickly prove itself if it wants to avert further damage.
Improved conditions in West Texas and the US/China trade standoff have weighed on the market this week, but the slightly higher open interest suggests that it wasn’t liquidation that forced prices lower. Instead it was probably an absence of buying that allowed the market drift south, as the 15.6 million in unfixed on-call sales (5.2 million in December alone) are still adopting a wait-and-see attitude.
Support looks quite solid in the mid-80s, as the US cotton pipeline will basically be empty by the time new crop arrives, mills have a massive amount of fixations to do, global stocks are decreasing, inflation is increasing, specs and index funds seem to have staying power and demand remains robust. It would therefore take a geopolitical or economic event to flip this market on its head.
Not much has changed since last week, as most traders remain sidelined. Mills are still hoping for another dip into the low-to-mid 80s to get some of their fixations squared away and are therefore not in any hurry to chase prices higher. Speculators are not active either in this dull market and are waiting for new momentum before jumping back into action.
The low volume shows that the major players remain sidelined for now. After last week’s rebound speculators have no reason to abandon their long position, while trade shorts are patiently waiting for a break in prices. Until something changes the status quo, we anticipate more of the same boring sideways action. Support seems to have moved up to around 84/85 cents, while resistance is at around 89/90 cents. Expect the market to trade within these boundaries in the foreseeable future!
The old adage to “never short a dull market” proved once again to be true . The market has held crucial support near 82 cents and then started to lift off. This means that the spec long, which still measured 9.0 million bales net as of last week, is likely to increase again. Meanwhile trade shorts are kicking themselves for letting another opportunity pass by and some traders are starting to fear this market.
The market’s focus is currently on the US/China trade dispute. So far we have seen the stubbornly high open interest as a bullish argument, as spec longs have shown resilience despite spot futures dropping from 96 to 82 cents over the last four weeks.
After moving sideways for a week the market broke through its 50-day moving average today, which triggered some more sell-stops. However, from a longer-term perspective the market is still within an uptrend channel dating back to October, with its current boundaries roughly between 81 and 85 cents.
The fact that open interest has remained so stubbornly high during this break could mean two things: 1) Either massive spec net long liquidation still lies ahead of us, which could force the market substantially lower from here, or 2) Specs as well as outright trade longs are giving the market a lot more rope than we thought, which could eventually swing the pendulum back the other way, as fixations and trade shorts begin to pay up. There are currently 14.13 million bales in unfixed on-call sales on the books for December onwards!
Last week we had our doubts as to the trade’s financial ability to increase its short position further, but so far the trade has been determined to keep the fight going.
The speculative net long position continues to grow and is probably at a new record at this point. The trade net short, as well as the outright short position, are also approaching record levels, second only to the spring of 2008, just before the market went parabolic.
The market’s narrative seems to be that while some July shorts might still get squeezed, this isn’t really about July anymore, but rather a shift towards a more bullish market environment in 2019. China will eventually run out of reserve stocks and is therefore expected to increase its imports considerably. Combine this with some problems on the production side, strong downstream demand and an inflationary outlook, and we have the pieces to a bullish puzzle.
The only thing that has changed is that another week has gone by without mills taking action. Today’s on-call report showed that as of last Friday there were still 4.66 million bales unfixed on July. Meanwhile, total unfixed on-call sales rose to a record 16.48 million bales.
The market is still caught between a large spec net long position and a sizeable trade net short position, with neither side ready to blink just yet. However, as already mentioned, over the next 3-4 weeks mills will have to fix nearly five million bales on July, which has the potential to put upward pressure on the market.
Although the technical picture is flashing some warning signs, not much has changed in the standoff between spec longs and trade shorts. Today’s on-call report showed that as of last Friday there were still 5.51 million bales unfixed on July, down just 0.05 million from the week before. Mills are apparently still hoping for specs to cut and run, similar to what happened in mid-May last year.
Another week has gone by and we are still confronted with the same problem, only a little bigger since open interest has been going up. The shorts may continue to hold off for another week or two in the hope that spec longs will blink first, but they are playing with fire!
From here, we could potentially go a lot higher, unless something were to shock spec longs into abandoning their positions again like last season. But the odds for this to happen are much smaller this time around and the current set up looks ripe for a short squeeze. The bulls may have to be patient as the standoff between spec longs and trade shorts might continue for a few more weeks, but we feel that the trade shorts will ultimately be on the run.
Assuming that speculators are not going to bail out of their net long anytime soon given the more optimistic outlook for commodities, it is difficult to envision how mills will escape their fixation trap. Similar to what happened last season, mills have been kicking the can down the road, but they are now reaching a dead end since rolling to December is not a realistic option.
As we have tried to explain in this report, a year ago the market rallied over 1200 points between now and the middle of May on a less bullish setup. Granted, we are already 900 points higher now, but that doesn’t mean that the market couldn’t get squeezed into the high 80s or low 90s.