NY futures continued to advance this week, as May gained another 206 points to close at 85.29 cents, while December was up 159 points to close at 85.21 cents.
Despite selling off nearly 400 points from last weekΆs high of 85.24 cents, the market was able to hold above the important 81.35 cents support level, which encouraged hedge funds to enter the market on Wednesday. What followed was an impressive move that took the May contract from an opening of 81.90 cents on Wednesday to a high of 85.97 cents during todayΆs session, before values retreated slightly to settle at a 9-1/2 months high of 85.29 cents.
Volume accelerated over the last two sessions, with 27Ά268 contacts trading on Wednesday, while todayΆs turnover was estimated at 38Ά002 contracts. After falling earlier in the week, open interest confirmed the bullish move by adding 2Ά675 contracts yesterday. Combined open interest in May and July futures amounted to 164Ά599 contracts this morning, which compares to 170Ά945 lots a week ago. Even though open interest in the two remaining current crop months has started to recede, it nevertheless remains at a rather elevated level when compared to previous seasons, which should give the shorts cause for concern.
The physical market continued to play catch up to the futures market this week, as Indian prices went parabolic after export registrations reportedly reached 7.0 million local bales, of which some 5.5 million have already been exported. In a strange turn of events, Indian mills are now looking at imports from African origins, which have become the cheapest exporter of some size. We estimate that there are around 1.5-2.0 million bales still available among the various African origins and once that cotton is gone, the US will have the honor of being the most affordable residual supplier.
Not that the US needed any help in getting sales on the books! This morningΆs export sales report came once again in at the high end of expectations, as a combined 258Ά400 running bales of Upland and Pima cotton were sold for both marketing years. The higher price level did obviously nothing to deter buyers, as there were still 18 markets participating. For the season we now have total commitments at 11.2 million statistical bales, of which 6.5 million bales have so far been shipped.
As has been the case in previous weeks, we believe that most of these sales were made “on-call”, as mills were interested in securing supplies, but were not quite ready to pay landed Far East prices in the mid-90s. On-call sales on May and July rose by 270Ά300 bales last week and now amount to 3.2 million bales. The bigger these outstanding on-call sales grow, the more underlying support they add to the market!
China continues to be the big story in this twisted cotton tale! Even though China has more than enough cotton with Reserve stocks in excess of 10 million tons, there is still a lot of cotton and yarn disappearing into China. Raw cotton imports amounted to 2.1 million statistical bales in January, which brings total imports for the first six months of the marketing year to 9.8 million bales. In addition to that, China imported a record 150Ά263 tons of yarn in January, which calculates to around 0.73 million bales of cotton. This trend of yarn imports is clearly accelerating and we are currently on course to surpass 8 million bale equivalents per annum, which is nearly three times the amount of two years ago.
Bearish commentators continue to point to the massive global ending stocks as their primary reason to be short. However, as we have pointed out repeatedly, they seem to overlook the fact that these global stocks carry different price tags. While African origins may be available at around 90 cents on a landed Far East basis, stocks in China are 50 cents more expensive! Even the Chinese donΆt want to buy their own expensive stocks and are trying to find ways to get their hands on cheaper cotton and yarn imports, as the above import figures clearly demonstrate.
As long as this huge price gap between China and the rest of the world exists and as long as China doesnΆt close the door on cotton and yarn imports, we will have a situation in which the balance sheet in the rest of the world tightens, while stocks in China continue to grow. Sooner or later something will have to give, but until we know what it is, we are likely to see a tightening balance sheet in the rest of the world, which should keep prices well supported.
So where do we go from here? The trade reminds us of a cat chasing its tail. Most merchants operate from basis-long positions, which means they own physical cotton and are hedged with short futures. These positions donΆt work too well when the futures market is constantly running ahead of the physical market, which is what weΆve been seeing over the last couple of months. Futures go up, and just as the physical market catches up, futures rally again! The large trade short position exacerbates the situation, since the sale of a basis-long, as well as fixations by mills, typically involves the buying back of futures.
With China still extracting cotton and yarn from a tightening balance sheet in the rest of the world, with the trade having to get out of a massive net short position in New York and with speculators adding longs to a bullish trend, it is difficult to argue against a higher market, especially in current crop May and July. Considering these factors, the trade would probably be well advised to use dips in order to exit this potentially harmful short position!
