NY futures continued to slip, as December gave up another 94 points to close at 83.24 cents, while March dropped 132 points to close at 82.31 cents.
Speculators have clearly lost their appetite for the cotton market after last weekΆs drubbing and continued to reduce their net long position. This is evident from the reduction in December open interest, which has dropped by more than 35Ά000 contracts over the last seven sessions. Since the trade was active buying back some of its net short, probably as a result of new sales and mill fixations, trading action was fairly balanced this week, which allowed for an orderly liquidation.
Speaking of sales, todayΆs US export sales report was seen as disappointing, as net new sales of Upland and Pima amounted to just 79Ά000 running bales for the current marketing year, plus 2Ά200 bales for the following season. However, before getting too negative on sales we would like to point out that last week straddled high and low prices, with mills having only two days to take advantage of cheaper offers. Furthermore there were 51Ά300 in cancellations, which could be the result of shippers freeing up some US cotton by switching to other growths when December traded in the low 90s.
The fact that there were 17 markets participating in the buying and that over 200Ά000 running bales were shipped to 21 destinations tells us that there is still a lot of interest in US cotton. Maybe we should look at supply as the limiting factor at this point, since there is hardly any old crop cotton left and shippers are reluctant to commit high grades, considering that the crop is late and that it may have some quality issues due to the irregular growing season.
While news on the cotton front was relatively uneventful this week, there has been a lot going on in outside markets. First there is the escalating conflict in Syria, which has sent crude oil prices to their highest level in over two years. Then there is the ongoing exodus from emerging markets, which has led to sharply lower currencies in markets relevant to cotton, such as India, Turkey, Brazil, Thailand or Indonesia, just to name a few.
Over the last five years we have seen an investment landscape that has become increasingly distorted by an abundance of cheap money, as trillions of dollars are chasing after assets in ΅pump and dumpΆ fashion, with little regard for fundamentals or risk. Hedge funds, sovereign wealth funds and speculators have been inundating emerging markets with their hot money, driving up currencies and asset prices in a self-reinforcing cycle.
As global yields collapsed in the process, borrowing costs reached record low levels last year in places like Brazil (2.5%), Turkey (3.2%) or Indonesia (2.85%). Sooner or later this tide was destined to reverse and we are now seeing massive capital flight, which is putting pressure on currencies and assets alike in these emerging markets. Governments and central banks are trying to stem the outflow by raising lending rates, but that may not be the best remedy considering that energy prices are rising as well, since this could lead to a squeeze and choke off economic growth even further.
It will be interesting to see how this is going to affect cotton prices. Importers like Turkey or Indonesia, who sell a sizeable amount of their finished goods locally, are likely going to feel the pinch. India on the other hand should be in better shape, since it is a large exporter of raw cotton as well as yarn (mostly to China). From a US perspective the fear is that the export market will get flooded with cheap Indian offers, which could make life difficult for US exporters.
So where do we go from here? Speculators will probably continue to reduce their net long position on rebounds. The trade is still considerably net short and we therefore donΆt expect it to add a lot more to its position before the outcome of the US and other Northern Hemisphere crops is known. Fixations and sales of basis-long positions should provide enough liquidity for specs to sell into for now. However, we need to watch outside markets, because any negative news could spook specs into dumping their longs in a greater hurry. From a technical perspective the 81.72 low of June 3 is quite important, because it represents a 7-month low. A break below that level would likely lead to a new wave of spec selling!
In the longer term we still believe that China holds the key to prices. As long as China absorbs the expected 9.5 million bales production surplus from the rest of the world, stocks outside China are going to remain relatively tight. Also, while the hot money crowd may have turned its back to emerging markets for now, this doesnΆt mean there wonΆt be another wave chasing ΅bargainsΆ in the not too distant future. There is an exorbitant amount of cash sitting on the sidelines, with few assets to chase after, now that global bond markets have started to reverse down. Chances are that we could see a melt-up in the remaining asset classes over the next year or two, such as US and European equities, as well as real estate and commodities.
Best Regards
