NY futures continued their downtrend this week, as December fell another 246 points to close at 73.99 cents.
The market continued to disappoint as bearish fundamental and technical developments kept buyers at bay. The main feature this week was the record-breaking rain that fell over West Texas from July 1st through the 4th. Most stations recorded three inches or more and some areas had as much as 5 to 10 inches. Lubbock airport registered 6.12 inches during this 4-day period, while just north of O’Donnell a station measured 10.24 inches.
Lubbock is on track to break the 7.20 inches mark for the wettest July on record, which dates back to 1976. Since the beginning of the year Lubbock has already received 20.50 inches of rain, which is nearly 12 inches above normal, and if this wet pattern continues it may even challenge the 69-year annual record of 40.55 inches.
Although some localized flooding has occurred and some acreage may have been lost as a result of it, these torrential rains were highly beneficial overall and have further increased the yield potential of an already promising crop. We believe that Texas has the potential to produce 10 million bales this season and that the US crop in on target for 19 million bales or more.
Tomorrow the USDA will provide us with its latest supply/demand estimate. It is a foregone conclusion that the US crop will be raised from the current 16.7 million bales estimate, the question is of course by how much. The USDA is known to adjust its numbers gradually and we don’t expect it to reflect the full potential of this crop just yet. We are therefore looking for a number in the mid-to-high 17 million bales range. US exports will probably be adjusted higher as well and even domestic mill use may see a slight increase.
The global numbers are a lot tougher to gauge, particularly when it comes to China. As we have learned over the years, it is rather difficult to come up with an accurate set of numbers for the world’s largest producer and consumer, and we often find that the circumstantial evidence is at odds with the statistics. Take the current situation for example. The Chinese market has seen prices spike to record levels this season, with the CC index currently at 123 cents/lb and the CNCE and Zhengzhou July contracts trading at 127 cents and 125 cents, respectively. The Chinese government has already auctioned off 2.6 million tons from its Strategic Reserve to stem the price advance and announced the sale of another 0.6 million tons which we expect to come in August. Also, China has so far imported around 2.4 million tons and issued additional import quotas for the remainder of the year.
Despite adding about 5 million tons of supply to the local marketplace, internal prices have failed to retreat and many mills still seem desperate to find cotton to tie them over to new crop. Yet the USDA numbers tell us that at the end of July there will be 4.5 million tons of ending stocks left, or roughly 5 months in terms of consumption. Where are all these stocks? We know that the Chinese government, who was the biggest holder of inventory until this season, has already let go of 2.6 million tons and has reportedly just 1.2 to 1.4 million tons left. This would mean that commercial/mill stocks would have to amount to some 3.1 to 3.3 million tons at the end of July, which is hard to believe given the panicky market we have seen in recent months.
We therefore suspect that China’s domestic consumption may be quite a bit higher than the current numbers give it credit for. Recent yarn output data seems to point in that direction as well. In May there were 2.335 million tons of yarn produced according to the National Bureau of Statistics and for the Jan-May period the aggregate amount was 10.213 million tons, which calculates to a yearly total of 24.5 million tons. Even if the ratio of cotton in the spinning system had dropped to just 50%, it would still amount to well over 12 million tons. Of course there is always some doubt as to the accuracy of this data, but combined with some of the other clues (record price/stocks release/imports) it does point to a higher consumption number.
The USDA has Chinese mill consumption for the current season at 9.8 million tons (after “loss” adjustment) and projects an increase to 10.1 million tons in 2010/11. Based on these consumption numbers the production gap in China amounts to just 2.7 million tons this season and 2.9 million tons next season. So why would China have to flush the marketplace with 5 million tons of extra supplies (2.6 Reserve stocks/2.4 imports) this season if it started with 4.9 million tons in beginning stocks and only had to cover a production gap of 2.7 million. Wouldn’t imports have been more than sufficient to make up for the difference? Needless to say, we have some trouble believing the Chinese consumption and ending stock numbers, but it may take a while before the facts are reflected in the statistics.
So where do we go from here? A bigger US crop and weak technical signals are keeping potential buyers on the sidelines for now. The bulls are trying to hang on to support near 74 cents (lows of March 31 and June 7) and have so far managed to do so on a closing basis. A break of this support would open the door for a move down towards 68.50-69.00 cents. Also, the fact that July has left the board today at a 456 points inversion to October and 786 points to December will create a gap on the weekly continuation chart, breaking below its long-term uptrend line. In other words, the market has a lot of work to do before the trend turns back up.
Fundamental traders are waiting for tomorrow’s USDA report before making further decisions. We believe that a slightly bearish report is already discounted in the market, but if the US crop shows a number of over 18 million, buyers will continue to stay away.
The market will have to find a level at which both fundamental and technical traders are willing to step back in to generate some bullish momentum. But don’t hold your breath – there is a reason why they call it the summer doldrums.
Best Regards
