NY futures continued to move higher, as July gained 86 points to close at 93.20 cents, while December advanced 83 points to close at 82.77 cents.
The July contract continued to frustrate trade shorts this week, as it moved to within 41 points of its recent high of 93.61 cents, set on March 28. For the last 35 sessions, since March 6, July has closed no lower than 89.86 and no higher than 93.61 cents, a relatively tight band of just 375 points.
A couple of weeks ago it looked liked the market was finally starting to reverse to the downside, but there was plenty of scale down trade buying to absorb the 1.5 million bales in net selling by the spec sector over the last three weeks. Obviously some large spec traders have closed out their positions in the cotton market during that time frame, as long accounts have dropped from 133 to currently just 104.
However, with the market being able to regain its composure, a technical sell-off has been averted for now and we have to assume that the remaining spec long is in strong hands. This may pose a problem for the still large contingent of basis-longs and unfixed on-call sales. We estimate that the trade short in July is made up of about 6.0-6.5 million bales in basis-long positions (US, Australian, South American, African and Indian origins), 3 million bales in unfixed on-call sales and perhaps a million or so in outright shorts.
Paradoxically, a bearish price outlook for cash prices going forward may actually act in support of July futures. As traders fear a drop in the cash market, they have a greater sense of urgency to get out of existing physical positions, which requires them to buy back their short futures. If this occurs in an illiquid market environment, in which specs are not prepared to sell their remaining longs, then prices will have to rise in search of willing sellers. So far the trade has been reluctant to get out of its upside down basis-long, but time is starting to run out and traders are getting increasingly more nervous about this situation.
If last weekΆs US export sales are any indication, traders will use every opportunity to lighten up on their remaining current crop positions. For the week that ended on April 17, a total of 152Ά000 running bales of Upland and Pima cotton were committed, of which 132Ά300 bales were for shipment in the next three months. Although China was the largest buyer at 112Ά500 bales, there were a total of 17 different markets participating, which shows that there is still broad-based demand for nearby US cotton.
Total commitments for the current season now amount to around 10.1 million statistical bales, of which 8.0 million have so far been shipped. We keep hearing some talk about potential cancellations of remaining commitments in an effort to free up tenderable grades for delivery, but we feel that this may be more wishful thinking than anything rooted in reality. There have been some cancellations almost every week since January, but that hasnΆt stopped net sales from increasing quite substantially. More importantly, shipments have been excellent in recent weeks, signaling that mills actually do want their cotton.
At this point there are only 1.92 million running bales of Upland cotton still unshipped. Most of that cotton is owed to Turkey (427Ά000 bales), Mexico (385Ά000 bales) and China (303Ά000 bales). These three markets make up 58 percent of the total and we believe that the vast majority of those commitments will get shipped. This leaves the rest of the bunch, with the only three other destinations owed more than 100Ά000 bales being Korea (123Ά000 bales), Thailand (115Ά000 bales) and Vietnam (107Ά000 bales). Behind that its mostly bits and pieces to a variety of markets. In other words, while there is certainly the possibility of additional cancellations, we donΆt believe that they will be of a magnitude that will change the tight US balance sheet in any meaningful way!
The May notice period has quickly turned into a non-event, after last minute fixations and a large EFP on Wednesday cleared out nearly all of the remaining open interest. As of this morning there were just 752 lots (75Ά200 bales) still open in the May contract, which means that most of the certified stock of around 300Ά000 bales will not change hands, similar to what happened during the March delivery, when only around 11Ά000 bales were tendered.
The fact that there was once again no certified stock made available should be unnerving to the shorts, since it is difficult for them to gauge what may happen when July goes off the board. Is the certified stock already committed or is there still hope that merchants will find a way to tender cotton in order to reverse the July/Dec inversion? Unfortunately many of these shorts wonΆt be around to find out, because they canΆt afford to roll the dice all the way up to the July notice period.
So where do we go from here? A year ago the market dropped about 800 points on spec liquidation in the first three weeks of April, with May trading at 81.00 cents and the July/Dec spread closing at 50 points carry. A couple of weeks ago it looked as if the market was going to follow in last yearΆs footsteps, when specs started to cut their long positions, but the strong rebound over the last two weeks has sent prices on a different track. Unlike last year, traders currently donΆt have the luxury of time, since rolling existing positions forward is not an option when there is an inversion of 1000 points looming.
This inversion may ultimately collapse, but probably not before most of these trade shorts have been forced out first, i.e. basis-longs have been liquidated and mills have fixed their cotton. Given the limited amount of market liquidity in the weeks ahead, we therefore still see the possibility for a short-squeeze in July.
The December bull continues to be fed by an uncertain plantings outlook in the US, as West Texas remains much too dry, while the Delta is under the threat of severe storms over the weekend. Lubbock has so far received only 0.9 inches of rain since January 1st, which is 2.61 inches below normal, and this weekend there is a dust storm forecast with winds blowing at 55 mph. This is certainly not helping the bearish cause and unless planting conditions improve, December is likely to climb towards the mid-80s.
Best Regards
