Weekly Commodity Market Recap: Cotton

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The bulls extended their run on the market last week, with support from anticipated tighter fundamentals in several key countries firming the outlook. The most-traded December 2010 contract on the ICE Futures U.S. rose for the seventh time in the last eight weeks, closing Friday at 91.29 cents per pound, the highest in more than two years. Even more impressive, earlier in the week the nearby October contract closed as high as 91.32, a fifteen-year high. Perhaps more significantly, the fact that each of the next ten cotton futures contracts are backwardated all the way until December 2012 shows just how tight world stocks have become, with little relief likely until well into the new marketing year, at the earliest.

The latest USDA WASDE report released Friday morning re-confirmed this tightness in the market. In spite of a bigger harvest forecast, gains in demand projections easily outpaced higher revisions to supply, implying lower stock levels. In fact, expected exports for this marketing year jumped 500,000 bales to 15.5 million, the second-highest volume in history. As a result, the USDA pared back 2010/11 U.S. ending stocks to a scant 2.7 million bales, the lowest level in fifteen years, closely mirroring our forecast here. In turn, expanding demand and lower inventories drove September’s forecasted stocks-to-use ratio lower to just 14.1%, the lowest since the mid-1990s, concurring with the highest domestic prices since the mid-1990s.

While not as dramatic, the net result of changes in the global balance sheet echoes the tighter conditions seen in the U.S., driving world cotton prices even higher. Forecasted ending stocks for this marketing year eased lower from August to just 45.4 million bales, also tightening the projected stocks-to-use ratio to the lowest in fifteen years. Naturally, global cotton prices are up again on the outlook. Already, every forward contract on China’s Zhengzhou Commodity Exchange now stands at a life-of-contract high, and the most-distant July 2011 contract settled Monday at 19,200 yuan/ton ($1.29), a record. Similarly, the ‘A’ Index, a proxy for global cotton prices, breached $1.00 per pound Monday for the first time since 1995, trending in mirror-opposite fashion to the plunge in global fundamentals.

Looking ahead, two opposing issues cloud the medium-term forecast. First, spinners worldwide are complaining that climbing yarn prices have not been commensurate with rocketing cotton costs. Naturally, this implies even tighter margins for many yarn mills that have little margin to spare. In fact, anecdotal reports are emerging of some yarn operations idling spindles and selling their cotton inventories to capitalize on the jump in price, something unsustainable longer-term. But arguing for the bulls, excessive recent rains in key areas of China and India could dampen prospects for yield, quality, or at least timeliness of the pending harvest. While the trend remains our friend, a global textile supply chain already dealing with razor-thin margins will be in no mood to support elevated fiber costs in the long term. Nearer term, while the fundamentals do not support a sustained retracement, we would not be surprised to see prices begin to plateau as the northern hemisphere harvest commences.

Weekly Commodity Market Recap: Cotton

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Last week cotton enjoyed one of its best performances in months, as nearby prices rose to a five-week high on heightened concerns of diminishing near-term supplies and in response to a weaker dollar. In fact, every contract month closed up for the week on an improving technical and fundamental outlook, reaching multi-week highs. The October contract finished the week—and the marketing year—at 82.36 cents per pound, a 22-month high. December similarly fared well, closing higher seven of the last eight sessions before settling at 78.76 Friday afternoon, its highest daily finish in over a month.

First, the sinking value of the dollar is helping prop up a broad range of commodities, including cotton. After reaching a near-term high earlier in June, the U.S. Dollar Index—a measure of the value of the greenback relative to a basket of foreign currencies—gradually eroded, falling to 81.655 late last week, the lowest in over three months. The dollar tumbled to a new year-to-date low versus its Japanese cousin, and teeters on the verge of falling to the lowest level against the yen in fifteen years. And at 1.305, the dollar also is trading near a two and a half month low against the euro, as signs of a relatively faster rebound in Europe take hold. Should the dollar remain depressed, this is likely to support a host of commodity prices later this summer, including cotton.

Second, Traders are fretting over the very real possibility that few old-crop supplies will be available for near-term shipment before ample new-crop supplies enter the market in a few months. Certificated stocks withered further, easing to just 47,365 bales by the end of the marketing year last week, the lowest since 2004. Any late-harvested U.S. cotton is not eligible for delivery in December—one of the two most traded contracts—creating ample fear that cotton supplies available for December delivery will be extremely limited. Thus, merchants are loath to hedge against December unless they can deliver. As a result, the lingering backwardation between the October and December contracts caused by views on old-crop/new-crop supplies has spilled over into the December/July spread. While the relatively modest Dec/July inversion is not—yet—a harbinger of bearish days ahead in its own right, it may bear attention if the inversion persists and widens appreciably as December approaches expiration.

Weekly Commodity Market Recap: Cotton

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The most-traded December contract fell for the fourth straight week last week, finishing Friday at 73.96 cents per pound, the lowest weekly close in five months. In the U.S., weather typically is the biggest influence on cotton trading at this point in the year, and this season is no exception. The sentiment that a ‘big crop is getting bigger’ is commonly held across the Belt. Already, at 18.3 million bales, the latest forecasted harvest size from the USDA reflects a robust upswing in estimated cotton plantings from estimates just a few months ago and higher projections for yield. Even so, this higher target still may prove too low, given the increasingly optimistic view for the Texas crop here. While cotton across the southeastern U.S. struggled under near-record heat in June here, west Texas cotton received welcome showers that could be just what the crop there needs to rival record yields. The latest trend of daily prices for the October and December contracts reflects this view of a ‘big crop getting bigger’. Instead of the normal contango in the market, December presently is trading for 600 points less than October, suggesting the market expects a much-larger crop once the harvest is completed after the expiration of the October contract.


With roughly two-thirds of the global cotton crop grown in the northern hemisphere, summer weather is a driving force for cotton markets around the world at this point in the crop cycle. In China, home to the world’s largest cotton harvest, in spite of springtime planting delays, the crop is likely to surpass last year’s size, rising to roughly 33.0 million bales. In fact, the latest forecast from China’s National Cotton Market Monitoring System (NCMMS) here looks for a harvest 3.3% bigger than last year, concurring with USDA forecasts. And while the crop remains behind across much of the country, producers across China see development in recent days narrowing the gap, supporting the cautious optimism for yields and harvest size.

In India, where more land is planted to cotton than any other country, a lackluster monsoon has yet to crimp prospects for a record crop. While last week’s report from India’s Meteorology Department here suggests season-to-date rainfall is 13% below normal, no major damage has been reported to the crop yet. In fact, analysts believe that even if the monsoon remains similarly below normal for the rest of this season, the crop could still develop well, as long as rains are well distributed. So far this season, central and northeastern states remain relatively drier, while the southern half of the country has seen an abundance of showers. Should widespread showers pick up in coming weeks, Indian production could rise to a record 25.0 million bales on the strength of record plantings and higher yields, also helping to throttle back global prices in the new marketing year. But if the optimism begins to fade both in China from persistent crop delays and in India from uneven, scant monsoon rains, anticipated tight global stocks in the new marketing year could push average prices higher in 2010/11, no matter how big the west Texas crop may be.

Weekly Commodity Market Recap: Cotton

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The cotton market continues to plumb new lows, weighed down by a soaring dollar, weaker equity markets, and the forward roll of positions by funds. Nearby cotton prices tumbled lower for the ninth straight session Friday, finishing the week at 77.06 cents per pound, the lowest daily close in almost four months. For the holiday-shortened week, Nearby prices gave up 299 points. Every contract month retreated last week, with several falling to the lowest levels in months. Different technical indicators are calling for a rebound, with momentum oscillators and the Relative Strength Index moving into oversold territory.

A key issue that continues to hinder prices in the broader commodity market is the relative strength of the dollar. The euro continues to get pounded on debt worries spreading across the continent. Europe's shared currency finished the week below $1.20 for the first time in four years, following bleak economic statements late in the week from Hungary. This drove U.S. Dollar Index futures to a fifteen-month high of 88.315, hammering commodity prices. Reflecting this weakness, the Reuters/CRB Index has collapsed over the last month, and at 248.94 is flirting with a new nine-month low. As a result, despite the most bullish old-crop fundamentals in years, cotton prices are pulled lower by weakness in commodity prices brought on by a re-strengthening dollar.

A second issue weighing on cotton prices is weakness in another key asset class, equities. Dow Jones Industrial Average futures finished the week below 10,000 for only the second time this year, dragging cotton prices lower. As the graph below shows, for the last year and a half, there has been a strong correlation between cotton prices and the Dow. But after weakening earlier this year, the co-movement has broken down during the last month, as stock prices retreated relatively faster in response to fears of a stalling global recovery.



A last issue that has hindered prices in recent days has been the roll forward of positions by funds. Long liquidation is accompanying this rolling of positions, reflected in the narrowing of the July/December inversion. After weighing on the market all year, this backwardation narrowed last week to just 165 points. The steep descent in nearby months has facilitated additional sales of certificated stocks as first notice day approaches for July. While the bears clearly have ruled trading in recent weeks, weather and its impact on crop development will dictate price with a more vocal voice for the market over the next several weeks.

Weekly Commodity Market Recap: Cotton

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Buffeted by less-than-favorable headwinds from outside markets, cotton prices were little changed on the week but still managed to fare better than most commodities, hinting at the underlying strong fundamentals internal to the cotton market that are likely to persist into the coming marketing year. Nearby cotton futures finished the week up a modest one point to 80.72 cents per pound from the week before, trading inside the prior week’s range. But this seemingly dull activity masks the impressive behind-the-scenes narrowing of the spread between July and December. After reaching a difference of 895 points hardly three weeks ago, the backwardation between these contracts stands at just 345 points now, as prices on both contracts have converged.

Cotton has taken its cues recently from both internal and external influences, particularly the re-strengthening of the dollar and the outlook for cotton fundamentals in the new marketing year. Naturally, many markets around the world are hanging on the latest developments emanating from the European debt crisis. The difficulties impacting Greece threaten to drag other euro-bloc members into the morass, weighing on investor and consumer confidence and lowering the value of the area’s currency. As a result, the euro fell to its lowest level in more than four years, helping push its American cousin higher. At 86.231, the U.S. Dollar Index rose to its highest level in a year, crimping prices for a number of dollar-denominated commodities traded globally. Oil prices retreated to a fourteen-week low of $71.61 per barrel, while the Reuters/CRB Index collapsed to 258.55, matching its lowest level in seven months. By comparison, cotton managed to fare relatively well in this environment against a broad mix of commodities.

A reason behind this relatively better performance from cotton may be due to the latest USDA WASDE report, which provides a first peek into projected market fundamentals for the new marketing year. The USDA looks for global cotton production to rebound an impressive 10.7% in 2010/11, but still trail the volume of global cotton mill demand for the fifth straight year. World cotton use is likely to expand to more than 119 million bales, the third-highest volume on record. As a result, the USDA anticipates global ending stocks will decline even further in 2010/11, tightening the world stocks-to-use ratio to the lowest level since 1994/95, a year when prices soared to more than a dollar per pound. While these tighter fundamentals are not enough evidence to conclude prices will climb even further in the coming marketing year, they do strongly imply that the market is unlikely to see prices settle closer to their ten-year average of just 55 cents per pound. While our short-term bias may be lower, tightness in cotton and yarn markets is acute in many markets around the world, supporting our long-term bullish slant that cotton prices are unlikely to retreat dramatically in coming months.

Weekly Commodity Market Recap: Cotton

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After reaching the highest levels in over two years the previous week, overbought cotton futures retreated last week, easing lower each of the first four days before rebounding modestly Friday as traders covered shorts and mills bought at these relatively lower prices. Nearby prices sank 207 points on the week to 84.13 cents per pound, easing in sympathy with a broad swath of commodities as the dollar re-strengthened. Brought on by Greek debt woes that threaten to spread across the European continent, the euro plunged last week, helping boost the dollar to 81.991 Friday, the highest weekly close in over a year. In turn, the higher dollar drove many commodity prices lower, including cotton. Lower unfixed call sales again last week foreshadowed the dip in futures prices. Even so, the CFTC Cotton On-Call position report shows a growing mass of mill buying under the market. Now at 2.6 million bales, the unfixed mill position should help support prices on any speculative related sell-off. The spec long position, which is much larger than the mill short position, has the advantage being able to roll forward. Mills must buy because they need the cotton, and most merchants would be unwilling to roll their contracts forward. It could be an interesting summer even if the weather cooperates.

By late in the week the dip in prices brought new business back to the market, boosted by continued signs of economic growth. The Commerce Department reported first quarter GDP rose an annualized 3.2%, the third consecutive quarter of expansion. What’s more, consumer spending led the growth, hinting at improving demand for cotton textiles and apparel in the world’s largest retail market. While evidence here confirms the recession had a devastating effect on per capita end use of cotton products in the U.S., a rising economic tide is likely to lift all ships, boosting fiber demand in 2010. A lackluster housing market and above-trend unemployment are likely to remain drags on net apparent consumption of cotton, but continued economic growth is likely to offset these negative forces, expanding cotton demand this year.

Away from the demand side, in the shorter term weather will become the dominant factor driving cotton prices, as reports of crop development and condition around the world weigh on the market. After a month of below-normal precipitation, Mato Grosso cotton in Brazil is in need of a good drenching before picking commences in earnest in coming weeks, else yields and production could suffer. Meanwhile, the Australian cotton harvest continues under clear skies and normal temperatures, boosting yield and quality prospects. With abundant year-to-date moisture levels here, tentative sentiment for higher yields in West Texas is widespread, while concern is mounting across the Southern Delta over too little rainfall. Given the persistent inversion in price between nearby contracts and more distant contracts, the market has long been hinting at a larger autumn harvest and increasing supplies for months. The question is whether—and how soon—this convergence in price between contract months happens as prices for more distant months firm, or if Nearby prices ease lower on signals of stumbling demand. Presently, we are not confident that either event will happen soon, suggesting this backwardation in the market may persist.