There was some excitement during the first half hour in the trading session today when prices of cotton futures rallied. Spec and local buying emerged following an opening that had originally been expected to try to press below 5400. When that didn’t happen, and instead prices held unchanged, an interesting series of option transactions took place in the option pit, causing prices to move higher and catching more than a few by surprise.
On the opening in options, a couple hundred Z-50 puts got sold, and several hundred Z-65 calls got bought. However, it was on the re-opening that a larger order was executed in which 1,500 Z-51 puts got bought. This order was expected to add pressure in the futures ring, but as this order was getting filled, a sizable market order (perhaps as many as 400 lots) to buy was executed in the futures ring. Ordinarily, one would expect that the option related selling would absorb this buying, but with locals in futures covering shorts and getting long, and stops getting elected, the temporary order imbalance caused prices to rise quickly.
Stops were triggered, first above 5450, which sent Dec as high as 5490, contrary to expectations as the put order was completed. Then straight away, once the large put order was filled, the same broker sold 500 Z-54 straddles. And when the ink was drying on that trade, the same broker began buying Z-56/60 call spreads at 125 and 130. As he bought these 1,100-1,200 spreads, December futures moved above 5500 as more stops became elected. Locals and more spec buying entered, which triggered another wave of stops between 5525 and 5575, resulting in the high price of 5585. From there, prices eased somewhat, with Dec backing off to as low as 5505, but still holding with prices moving sideways. This continued until the close when late buying emerged helping fill an order for 200-May 49 puts and another for selling about 200 of the Z-55 calls at 275. December futures then settled at 5536, up 128 points, or 2.36% higher on the day.
The range between 5400 and 5600, (+/-50 points) basis December, remains intact. However, there is some question as to whether today’s strong action is simply a one day aberration, the result of speculative influence, or the beginning of something new. In my book, it’s likely that it is simply a correction from the oversold condition created by the recent downward action; although as regular readers should know, I’ve been suggesting buying dips, while risking a close below 5370, looking for a breakout on the upside beyond the 5600 level, and a move to 6000. I stick by that prediction; however, it is never wrong to lighten up your position on strength.
Further research regarding the methodology used by the U.S. Department of Agriculture (USDA) in compiling their crop report estimate, suggests further evidence that the numbers released are on the high side. There are many professionals who discount those numbers, and apparently with good reason, as it seems that they are required to use a five-year average boll weight when less than 20% of the crop has been harvested. Now, I’m not explicit on all of this, but since that five-year average includes two of the record yields that means the number could be skewed. In addition, since it still is going to be a while before 20% of the crop is harvested, truly accurate numbers may not be available until the October estimate is prepared. All this leaves open a window of uncertainty and helps explain the concern that some in the cash market should have regarding the validity of their positions.
Further evidence of the crop condition comes from the USDA’s weekly crop-progress report, which shows an average of 36% of the new crop is rated in very-poor to poor condition. This is another minor increase, up slightly from last week's 35%, and continuing well above last year's 11% accounting. Still further proof is that an average of 38% of the new crop is rated as good-to-excellent condition, compared with last week's 39% and last year's 63%. Provided last year was one of those two record years, but still the evidence is mounting that the crop is in bad shape.
The New York Board of Trade (NYBOT) spec/hedge report released this morning showed speculators holding a net-long position of 13.9%, versus last week's 15.2%. This indicates that longs lightened up some on the recent downward price action, but not to the degree that some might have expected given the decline we saw this past week. It tells me that some of these longs are well positioned and liable to hold on, barring a break of the lows below 5200.
How prices respond to today’s surprising strength is the next question. It’s quite possible that we will revisit the the upper end of the range soon. However, if today was simply a one day correction, December may soon brush against support at 5400, which may curb your enthusiasm if you have been a stale bull and looking for an excuse to re-enter into a long position. Instead, consider an option play.
Demand news, or the lack of demand news is enough to keep rallies in check, but if the 5600 area does yield, my target of 6000, basis Dec, should come into play.
I wonder how confident industry professionals really are about their positions. I can’t help but feel there is a great deal of uncertainty about the quality and quantity of the crop.
The Dec/March spread traded between 340 and 325. Volume was lighter than we have been seeing, although 500 spreads changed hands at 340. The Oct/Dec spread traded 205 and 200. I’d look for these spreads to widen further as penalties may apply to certificated stock and funds roll.
Moving Averages
December (5536)
March (5881)
Options Month
Implied Volatility
9 Day
55.33
58.47
October
24.00%
18 Day
55.80
58.79
November
24.50%
40 Day
54.66
57.58
December
25.00%
100/200 Day
55.86
58.37
March
25.00%
57.10
n/a
Futures
Calls
Puts
May
24.50%
13,000
5,100
3,100
July
23.50%
Jurgens Bauer (212) 748-1388 floor (973) 378-8379 fax (973) 652-4694 mobilejurgensb@gmail.compicocotton@gmail.com
