Weekly Commodity Market Recap: Cotton

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Cotton futures retreated for the third straight week last week, dropping more than a cent to the lowest weekly close since mid-November in response to a stronger dollar, weaker alternative crop prices, and credit concerns in China. The 2010 retrenchment in price continued last week, with nearby futures easing lower three of the four trading days during the holiday-shortened week, before settling Friday at 71.07 cents per pound.

One key issue weighing on cotton prices is a resurgent dollar. The greenback rose sharply last week, boosted by a weaker euro, news that China was tightening its monetary and credit policies, and an increase in demand for lower yielding assets. The U.S. Dollar Index finished the week at 78.43, its highest weekly close in five months. In addition to cotton, the stronger dollar also weighed on prices for other ag commodities, dragging cotton lower.

Corn, wheat, and soybean prices all extended their 2010 declines again in the latest week, in concert with lower cotton prices. However, the losses in other key competing crops outpaced the latest weekly decline in cotton prices, implying these other crops dragged cotton prices lower. Since the start of the year, nearby cotton futures are off 6.5%. But wheat, corn, and bean prices are faring even worse, falling between 8-13% over just the first three weeks of the year. These relatively lower prices for other crops support our earlier outlook that cotton may buy back land for spring plantings in a number of markets, particularly the United States.

Finally, the week brought news of efforts in China to slow lending in order to ease concern of a ballooning credit bubble and proactively tamp out inflationary sparks. The country’s regulatory commission instructed banks to slow access to loans in order to tighten loose credit standards. However, Chinese textile and apparel manufacturers already have seen growth in capital investment in the sector slow considerably in recent years. Any further restrictions on new investment may crimp fiber demand longer term, hindering the price outlook.

The decline in U.S. cotton futures prompted another strong week of exports. The latest export sales report pegged net new sales of upland and Pima at 347,000 bales, one of the strongest showings this week. Similarly, weekly exports climbed to 233,000 bales, the second-highest level this marketing year. China remains—by far—the largest buyer of U.S. cotton, but we look for interest from the region to slow as the Chinese New Year approaches in mid-February.

Barring another financial market meltdown or a double-dip recession, our opinion remains that cotton demand will continue to outpace production (even with a presumed increase in plantings). As we discussed last week here, mills are still quite short, and still have on-call contracts that need to be fixed. For these reasons, we believe that while cotton may trade lower in the next few days or even the next few weeks, it will find underlying demand limiting its downward correction witnessed over the first few weeks of the New Year.

Weekly Commodity Market Recap: Cotton

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The corrective consolidation in prices extended into the latest week, as weaker cotton fundamentals, plunging Chinese prices, and lower commitments of traders data weighed on U.S. prices. The nearby March contract finished the week down a modest 36 points from the week before, at the lowest close since mid-November.

The week began with an impressive 180-point jump Monday, buoyed by a weaker dollar and sentiment for tighter global ending stocks in Tuesday’s WASDE report from the USDA. However, the optimism for higher prices sagged Tuesday, with prices falling three of the next four days following release of the WASDE report. Tuesday prices gave back most of Monday’s gains, falling 145 points. While USDA projections for U.S. fundamentals closely matched FCStone forecasts, the USDA figures for global supply and demand were more bearish than the market had anticipated. The bearishness carried over into the following day, when Wednesday prices tested the previous week’s low of 72.43, before closing at 73.43, up 64 points. The only other note of bullishness came Thursday following the release of the U.S. export sales report. At 460,726 480-lb. bales of Upland and Pima, sales climbed to a marketing-year high. Similarly, exports jumped in the latest week to 211,891 bales, the biggest volume since early October. Cotton destined for China accounted for the bulk of the surge, with weekly shipments the most in eight months. But in spite of this news, prices eased lower each of the last two days of the week, finishing at 72.08—a seven-week low—sunk by weaker Chinese prices and a stronger dollar.

Even as prices have eased from recent highs on the ICE Futures U.S. exchange, prices on China’s Zhengzhou Commodity Exchange have fallen much faster, weighing on global markets. Since peaking on January 4, the most-traded May contract is off 1,010 yuan per metric ton (6.72 cents per pound) to 15,830 yuan per ton, outpacing the 3.92-cent drop in March futures on the ICE exchange. Market open interest is well off its record peak set two weeks ago as well, falling by more than a third. The plunge both in open interest and prices on the ZCE is pulling market prices on this exchange closer into parity with U.S. futures prices, something we anticipated here.

U.S. futures also are easing lower on signals from the trade. First, reports of lower unfixed call sales from the CFTC weighed on futures prices last week. A significant net reduction took place on the mill side in unfixed on-call positions during last week's price skid, where mills fixed prices on 3,324 lots to reduce unfixed call sales to 49,548 lots. Unfixed holdings on the producer side increased a net 46 lots to 10,524. A second report from the CFTC showed funds and speculators cut cotton futures-options net longs to lowest combined total since week ended Nov. 24, trending in step with the decline in futures prices. Commercials reduced net shorts to 53.2% of open interest, down 10.7 percentage points from eight weeks earlier. Meanwhile, funds and speculators reduced their net longs by a combined 8,587 lots in cotton futures with options during the week ended last Tuesday, according to supplemental data reported by the CFTC Friday. They were net long a combined 131,333 lots, the lowest since the week ended November 24. Trend-following funds trimmed their net longs by 6,255 lots to 41,049, index funds pared theirs by 2,281 lots to 78,055 contracts, and small specs cut theirs by 80 lots to 12,299. The reduction by index funds came on the heels of earlier expectations for a fresh influx of money into the cotton market around the first of the year as a result of rebalancing and has sapped much of the market’s enthusiasm for higher prices.

As a result of the weaker global fundamentals, steep drop in Chinese prices, and unexpected declines in traders’ commitments, futures prices are well off their early-January highs. However, merchants still need to purchase more futures contracts than sell in order to even out their on-call positions, suggesting sentiment has not tilted to the bears just yet. We continue to expect prices to move sideways to higher over the next few weeks, once this correction is fully digested. But should alternative row crops remain at current levels, this divergence in prices will likely prompt a modest increase in U.S. cotton plantings in the spring, which longer term may stem the gains in cotton prices.

Weekly Commodity Market Recap: Cotton

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A barrage of bearish data weighed on cotton prices last week, dragging U.S. and Chinese markets lower into an overdue correction, consolidating and setting the stage before prices resume their gradual march higher this winter. Following a move to new highs early last week, cotton prices on the ICE Futures U.S. tumbled three of the next four days, finishing Friday at 72.44 cents per pound, the lowest level in seven weeks. Several issues together pulled prices lower on the week, including prospects for looser anticipated global fundamentals on Tuesday’s WASDE report, rumors of fund balancing, lower Chinese futures prices, and the Chinese central bank’s raising of interest rates.

First, market sentiment points to higher global cotton production forecasts when the USDA releases its next WASDE report Tuesday morning, boosting anticipated carryover stocks. Here, beneficial rains across the eastern third of Australia over the last half month continue to ease crop concerns from just a few months ago. While the crop there still needs ample moisture during the crucial February fruiting period, ample December and January showers dramatically boosted yield prospects for one of the world’s leading cotton exporters. Similarly, excellent crop conditions across much of the Brazilian cotton belt here are helping improve harvest prospects in the Southern Hemisphere’s largest producer this year. Additionally, the latest data on the robust pace of cotton arrivals in Pakistan here continue to support our long-held view that production forecasts in this market remain too conservative. Together, should these harvest sizes be revised higher as we anticipate, the increase in global supply could temper much of the near-term enthusiasm for continued price gains.

A second issue that weighed on cotton prices last week was rumors of fund rebalancing and a rebound in the dollar. According to the CFTC Commitments of Traders Report, for the week ending January 5th, index funds were net sellers of only 123 contracts, which reduced their net long position to 80,336 contracts. Hedge funds, however, were more aggressive sellers, decreasing their net long position by 4,423 contracts to stand at 41,032. But several market watchers see this as profit-taking by long-only funds, and not an indication that index funds are any less bullish.

The dollar also dragged on many commodities last week, including cotton. In the first full week of trading in the New Year, the U.S. Dollar Index rebounded to 77.655, a three-week high. But Friday’s disappointing jobs report and higher oil prices are likely to temper gains in the greenback in coming days, improving the near-term outlook for cotton.

Lastly, U.S. futures prices were heavily influenced by China’s impact on the market. Plummeting cotton prices on China’s Zhengzhou Commodity Exchange (ZCE) dragged U.S. prices lower. The most-traded May contract on the ZCE fell 570 yuan per ton last week (3.8 cents per pound) on plunging volume and open interest, the biggest weekly drop in months. The drop in futures came as The People's Bank of China Thursday raised the interest rate on its three-month treasury bills for the first time since this summer, stoking fears that Beijing could start tightening monetary policy in the coming months. Market perception is that as the Chinese attempt to gently slow economic growth and head off inflation, consumption of raw materials will slow. This policy shift reverberated across cotton markets around the world, driving prices lower.

While we acknowledge the overdue need for this corrective consolidation in prices, we continue to expect prices to continue to move sideways to higher over the next few weeks, which will likely prompt a modest increase in U.S. cotton plantings in the spring.

Weekly Commodity Market Recap: Cotton

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Cotton enjoyed another week of gains, finishing the year with its highest weekly close since the March 2008 spike. Re-strengthening global demand signals continue to support price, along with soaring trade on China’s Zhengzhou Commodity Exchange (ZCE). A firmer demand picture came into focus this last week, framed by good news in several markets. U.S. export sales of Upland cotton hit a marketing year high of 349,576 bales during the previous week, with much of these sales to China. News of another month of double-digit growth in Pakistani cotton yarn exports here suggested fabric mills across Asia are ramping up production. Likewise, Thai cotton yarn exports detailed here soared at the fastest pace in six years, echoing this sentiment. Downstream, faster growth in retail apparel sales in several markets including Taiwan, Canada, and Poland here confirms the improving prospects for cotton mill demand, as once-wary shoppers begin to return to stores in key markets around the world.

A second key driver impacting prices both in the U.S. and around the world has been the impressive performance of futures trading on China’s ZCE. Prices on the most-trade May contract stand at a record level, followed by soaring volume and open interest. As we discuss here, in just the last week, the May contract soared 835 yuan (5.55 cents per pound) to its new record, as volume more than doubled over the same short period to a record 584,560 contracts. Short supplies, transportation bottlenecks, and faster growth in mill demand for cotton are helping propel Chinese cotton futures prices to these uncharted heights, but the potential for increased cotton plantings this spring may ease price pressure in coming months.

In light of these bullish fundamentals, we look for prices to continue to move sideways to higher over the next few weeks, which will likely prompt a sizable increase in U.S. cotton plantings in the spring. Wednesday morning the market will digest the latest economic outlook from the National Cotton Council, followed by a detailed supply/demand outlook from the International Cotton Advisory Committee and comments on regulatory oversight of the cotton market from CFTC Commissioner Michael Dunn. These reports could have an impact on both trading and price action in coming weeks, and will warrant close attention.