NY futures continued to fall this week, as July dropped another 517 points to close at 76.65 cents, while December gave up 547 points to close at 73.90 cents.
Since closing at 92.62 cents on April 23, the market has dropped nearly 1600 points in a little over three weeks and it is still anybodyΆs guess as to where this steep slide will finally come to a halt. Looking at the long-term chart, the market has now come full circle and is back to about the same level from which it started its epic bull run two years ago. As you may remember, the DecemberΆ10 contract began its historic rally from a base of around 74.00 cents in July 2010.
Unfortunately the statistical picture looks a lot worse today than it did in July 2010. Back then the USDA predicted a world crop of 116.0 million bales, which is not a lot different than the estimated 116.7 million bales for the coming season. World use on the other hand was expected at a much higher 119.7 million bales two years ago, while the forecast for next marketing year is at just 110 million bales. However, the most dramatic difference between the two USDA snapshots is found in global ending stocks, which are projected to rise to 73.7 million bales in the coming season, or 23.8 million bales more than in July 2010. ThatΆs like having an additional US and Australian crop do deal with! Even inventories outside China are reflecting this bearish picture, as they are projected to amount to 14.4 million bales more than two years ago. Any which way we look at the current statistical picture, itΆs not a pretty one for the longs!
While mills were struggling during last yearΆs bull market, it is now the growers who are finding themselves on the wrong side of the market. After many producers have seen their input cost go up to some 65-70 cents/lb in recent years, the current market price does not yield much profit anymore. What a few weeks ago still amounted to a potential profit margin of 20-25 cents has since melted away to just 5-10 cents in many cases. Growers, who are far behind the curve in regards to forward contracting this season, were the most active group of sellers in New York over the last couple of weeks as they desperately tried to lock in these rapidly dwindling profit margins. Unfortunately there are still a lot of growers out there who are unprotected at this point, which is why we believe that the market will not be able to rebound much from current levels. Every time the market offers a spike in prices, it will likely be met by another wave of grower selling.
Outside markets are not offering any help to the cotton market either at the moment. Quite to the contrary! Since 2008, the four major central banks (Fed, ECB, Bank of Japan and Bank of England) have boosted their combined balance sheets from around 3.5 trillion dollars to 9.0 trillion dollars and injected unprecedented amounts of liquidity into the worldΆs financial system via a variety of programs and schemes. However, while this money printing may have prevented an implosion of the debt bubble and created the illusion of renewed economic growth, the reality is quite sobering. Jobs in the industrialized world are not coming back, debt keeps rising to alarming levels and social unrest is becoming more evident.
Europe is a mess, with 11 countries in the EU either in or about to enter a recession, and even ChinaΆs growth engine is starting to sputter. Although the US has its own massive problems to deal with (US government debt has increased from 9.3 to 15.7 trillion since May 2008), it still enjoys ΅safe havenΆ status when there is trouble brewing elsewhere. As a result we have once again seen a big shift out of what are considered riskier investments, such as European debt, emerging markets and commodities, into the perceived safety of US treasuries. Today the 10-year US bond traded at a yield of just 1.7%, approaching its historic low of 1.672% set in February 1946. It is more than a bit ironic to see yields in the worldΆs largest debtor nation approach record lows and it speaks volumes about the irrational world we are currently living in!
TodayΆs US export sales report was quite constructive at 180Ά000 running bales net for the current marketing year and 78Ά700 running bales for next season. This brings total commitments for the current season to 12.3 million statistical bales, whereof 9.0 million bales have so far been shipped. The buying continued to be broad-based, with 15 markets participating.
When we look at the current balance sheet for US cotton, we started with a total supply of 18.2 million bales this season, from which we need to subtract domestic mill use of 3.5 million bales and 12.3 million in export commitments. This leaves theoretically around 2.4 million bales for sale. However, from this number we need to reserve some 0.9 million for domestic mill use between August and October, and there are also some export commitments for August/October shipment that are coming out of current crop. If we put that figure at 0.5 million bales, it would mean that there are around 1.0 million bales still for sale at this point. This doesnΆt sound like much given that we are only in May, but we need to consider that we have an inverted market that is headed into a bearish oversupply situation. This means that holding on to inventory doesnΆt make much sense since there is neither carry available nor a positive outlook for prices. Under these circumstances it is probably best to dump any remaining cotton before it becomes burdensome.
So where do we go from here? The only bullish factor at the moment is that everyone is so bearish, which warrants some caution. However, we believe that any bounces the market may offer will be met with aggressive grower hedging and we therefore do not see much higher prices in store unless there are some problems on the weather front. Once the market approaches 70 cents we expect to see a shift in the balance of power, as growers will become more reluctant to chase prices lower, while mills should be getting more active on the buy side.
