To say the cotton market has been volatile might be an understatement. Volatility is exactly what this commodity has been experiencing in recent years.
When looking at a daily bar chart of both the old and new crop months, these past six weeks parallel that of a roller coaster blue print; a slow ride to the top followed by a rapid drop (see chart below).
Chart source: eSignal
Both moves can be explained by leading fundamentals and seasonal trends. It is interesting that the initial drop in old crop July was sparked by an adjustment by the USDA that into today does not look to have been accurate. The USDA reduced export sales estimates for the 2013 crop on May’s supply and demand report, which in turn resulted in a rise in ending stocks. To date, old crop cotton is more than 100% committed to overseas buyers in accordance with its revision. The new crop’s (December ‘14) rapid drop can be defined simply by rain, and lots of it, in drought-stricken West Texas. There were some areas that received 6 to 8 inches in May and 3 to 5 more inches in June. Early June rains, however, brought winds near 100 mph and resulted in crop damage in a few areas.
Severe weather June 6th weekend resulted in torrential rain, baseball-sized hail and hurricane-force winds (map via TTU Mesonet)
I bring up this storm from two weeks ago in order to support mid-week market action. The wild weather is rumored to have inhibited young plants from healthy progression and puts emphasis on the tight supply situation we are in for the remainder of this summer. A rally in both old and new crop are justified first by rationing and second by a flurry of mill fixations against July. There has existed a safety net of commercials that held a large short position in July that other market participants knew would have to be bought back before first notice day or rolled into December. The recent cotton-on-call report previous to this week’s rally showed that more than 1.3 million bales remained unfixed against July – that’s 13,414 contracts. While this doesn’t sound like a very large number, it was enough to aid in higher prices.
The market has one more scenario to deter volatility in December and into March. The elephant in the room we know as the Chinese cotton policy. A shift in their policy has resulted in the possibility of their imports falling by 5.5 million bales. The imported cotton into China for the 2013/14 season was 13.5 million bales; the 2014/15 estimated imports are currently at eight million bales, down another half million from the May USDA Report. This will certainly result in weaker prices for March. However, December still has the potential to find support on weather concerns and foreign buyers rushing to fulfill nearby demand. China has announced that they will put an end to their cotton reserve sales beginning Aug. 31, ahead of its domestic harvest. A of June 19, China has sold 1.96 million tons of cotton from their reserves.
Export sales for the week ending June 12 were stronger than expected as the 85¢ level in July resulted in a flurry of buying. Indonesia and Vietnam were the largest buyers of old crop; Indonesia and Mexico were the largest buyers of new crop (Vietnam fell closely behind). Fourteen countries purchased 153,100 net bales of old crop while 12 countries purchased 103,300 net bales of new crop. I’d say demand is healthy, however, the approach of first notice day is weakening July while commercial shorts rolling into December are preventing higher prices in new crop for now.