NY futures closed mixed this week, as July rallied 274 points to close at 88.36 cents, while December dropped 70 points to close at 77.13 cents.
The July/Dec spread was at the center of the marketΆs attention this week, as the inversion traded in volatile fashion between 800 and 1400 points. It was primarily the spot month that caused the commotion, as the larger than expected open interest prompted some shorts to pay up in order to square their positions earlier in the week.
When traders returned from the weekend, they were surprised to see that open interest still amounted to nearly 45Ά000 contracts in July. We believe that the relatively large certified stock of over 400Ά000 bales has encouraged many shorts to stay in the game longer than they otherwise would have. Once traders realized the danger of such a large open position, many of them began to cover, which lifted July above 91 cents by Wednesday.
Even though July let off some steam today, the situation is far from being resolved. As of this morning, open interest was still at 26Ά051 contracts, the most at this date since 2006. By comparison, last yearΆs open interest was already down to 12Ά765 lots and two years ago it amounted to 17Ά222 contracts on June 19. Furthermore, in both of those years the available supply of tenderable grades was considerably larger than in the current season. We donΆt know how this poker game will ultimately play out, but we are likely to see another two volatile sessions leading up to First Notice Day on June 24.
December continued to be well supported near 77 cents. After dropping to a closing low of 76.32 on Tuesday, the market was once again able to quickly reclaim the 7700 level in the last two sessions. December is getting support from a tight supply scenario that will last well into the 4th quarter. As a result cash prices remain relatively firm, with the current A-index at 93.70 cents and the forward A-index at 84.45 cents. When we apply the traditional 6-8 cents discount to the A-index, December futures seem to be more or less at ΅fair valueΆ near 77 cents.
US export sales continued to surprise positively, as a total of 258Ά700 running bales of Upland and Pima were sold last week, whereof 155Ά200 running bales were for June/July shipment. Indonesia (91Ά700 bales) and Vietnam (66Ά100 bales) were the most active buyers for nearby shipment and this seems to indicate that mills in the Far East still have a lot of holes to fill until new crop. Shipments slowed considerably at 132Ά000 running bales, but are still on pace to make the current USDA estimate. Total commitments for the current season now amount to 11.0 million statistical bales, of which 9.6 million bales have already been exported.
The strong pace of US export sales for nearby delivery shows that the liquidation of current crop US stocks continues unabated, as merchants try to clean out their remaining inventory and mills are still in search of suitable supplies. With export sales at 11.0 million bales for the current season and domestic mill use at 3.6 million, we already have 14.6 million out of 16.8 million bales supply committed, leaving theoretically 2.2 million bales. However, since we need to account for export sales and domestic mill consumption between August and October of probably a million bales each, the amount available for sale may actually be down to the last 200Ά000 bales. For this reason we believe that the certified stock is spoken for and that either its current owners or new takers will need it to ship against existing commitments. In other words, we believe that basically all current crop cotton, including the certified stock, will be shipped or consumed by the time new crop is being harvested.
So where do we go from here? Given its still large open interest, July may still hold some surprises in store as it approaches First Notice Day next Tuesday. We believe that there will be a strong taker or two, which could get some of the remaining shorts in trouble.
December has found an area of support near 77 cents, which it has held for nearly four weeks now. For Dec to move lower, the forward A-index (84.45 cents) would have to drop first, but given the tight supply situation it may take some time for additional pressure to materialize. LetΆs not forget that the current A-index (93.70 cents) is quoted nearly 17 higher than December and even with July out of the way, cash prices for nearby shipment are expected to remain relatively firm over the coming months. If the crops come in as expected, new crop values may eventually move lower, but it is all a matter of timing. We therefore feel that December will trade in a relatively narrow window between 76 and 79 cents in the foreseeable future.
Best regards
