New York futures continued to move higher, as December advanced another 66 points to close at 66.58 cents.
An improving technical picture and a tight cash market lifted the market towards 68 cents this week, before momentum started to roll over again yesterday. The crossover of the 7-day vs. 21-day exponential moving averages sparked some spec buying on Monday, which ran into an increasing amount of trade selling on the way up. The jump in open interest suggests that while some specs swapped shorts with the trade, there were also some additional spec longs and trade shorts established.
The current market situation is probably best described by the proverbial “bird in hand versus two in the bush” analogy. Although Northern Hemisphere crops still loom large, merchants and mills are finding out that it may be a while before these abundant supplies exert their pressure on the market and that cotton for nearby shipment is both pricey and hard to come by.
Just take the US for example, where electronic warehouse receipts (EWR) show only 725Ά000 bales still open for 2013/14 and earlier seasons, of which 422Ά000 are currently under shipping order. Domestic mills may hold some inventory in addition to that and there is also some cotton in transit, but the US pipeline is about as depleted as we have ever seen it at this time of the year. Another measure are outstanding government loan stocks, which amounted to just 58Ά000 bales last week, compared to 332Ά000 and 397Ά000 bales in the previous two seasons.
Although new crop cotton from South Texas and to a small degree from Arizona is starting to move in - 276Ά000 bales as of this morning - growers are apparently reluctant to sell their cotton at the current market level and are holding out for better prices. This puts shippers in a bind, since they are struggling to find cotton for nearby commitments, many of which were sold at higher prices. Unshipped export commitments currently amount to 4.9 million statistical bales, of which we estimate that around 2.7-3.0 million are for shipment before the end of the year, possibly more. In addition to that US mills consume a little over 0.3 million bales per month, which adds up to around 1.3 million bales between now and the end of December.
In other words, we estimate that merchants have currently over 4 million bales of US sales on their books that need to be applied and shipped before the end of the year, plus whatever mills intend to buy on top of that over the coming months. We understand that mills still have a lot to cover for October/December shipment, led by China who still needs to fill a sizeable amount of import quotas before the end of December.
China was once again the biggest buyer of US cotton last week, taking 93Ά100 of the 267Ά300 running bales that were sold to 18 different markets. Total commitments for the season now amount to 5.2 million statistical bales, of which just 0.3 million bales have so far been exported. The market seemed to once again have a negative reaction to these export sales, although we donΆt quite understand why, since the moderate pace of sales is still mainly due to a lack of offers and not the other way around.
The tight supply situation applies to other origins as well, such as Brazil or India, where local prices have been quite firm lately. Old crop inventories seem to be limited just about everywhere we look and although new crop is going to be harvested soon, growers are in no hurry to part with their cotton. It is therefore the marketΆs job to flush these supplies out and that will only happen via more attractive prices, at least in the near future.
It is difficult for traders to gauge the price of cotton at the moment, because there are wide variations between origins as well as shipping months. Take China for example, where the ZCE September contract trades at around 17Ά205 yuan/ton (126 cents/lb), whereas the ZCE January contract sits at just 14Ά355 yuan/ton or over 20 cents/lb less. If NY futures had an actively traded September contract, it would most likely trade at a sizable inversion as well.
Since this price discount going forward has existed for a while, merchants and mills did not want to hold more cotton than absolutely necessary. In fact, merchants were quite happy to build a physical short position, expecting prices to fall over time. This may help to explain why the trade net short position of 3.3 million bales is the lowest in at least eight years. While growers did not sell as much cash cotton or futures as in previous seasons, merchants pushed short cash sales in view of the expected bear market, some of which were hedged with long futures. What needs to happen now is for merchants to get cotton out of grower hands.
So where do we go from here? December is currently trading about 450 points above its low, trying to lure some much needed cotton into a depleted pipeline. Specs have covered some shorts and established a few new longs based on an improving chart, but momentum is not nearly as strong as we would like it to be. Nevertheless, given the acute shortage of cotton nearby, we donΆt expect much downside pressure at the moment and feel that the market needs to create more of an incentive to entice growers to sell. We therefore expect the market to slowly grind higher, as this countertrend rally is likely to continue until harvest pressure finally sets in.
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