NY futures continued to advance this week, as July rallied 100 points to close at 94.20 cents, while December gained 61 points to close at 83.38 cents.
Just when it looked like the July contract was about to roll over, a wave of new spec buying propelled the spot month above the important 94 cents resistance area on Tuesday. In doing so, July broke out of an eight-week trading range, during which it had closed between 89.86 and 93.61 cents for 37 consecutive sessions.
The strong move was confirmed by decent trading volume and a huge jump in July open interest, which increased by 9Ά696 to 118Ά644 contracts in just two sessions. While specs added new longs, the trade was obviously willing to commit to an even larger net short position. This is rather surprising to us, considering that the short side has not been too kind to the trade in recent months and we therefore thought that traders would adhere to the old Will Rogers quote, which warns that “if you find yourself in a hole, stop digging!”
Although cash prices have held steady this week, the renewed strength in New York has put additional pressure on the basis, adding to the woes of traders who still have to unload sizeable amounts of basis-long positions. There is simply no easy way out of this trap at the moment, especially since the July/Dec inversion has once again widened to nearly 1100 points.
US export sales for the week ending April 24 were about as expected at 37Ά600 running bales for the current marketing year and 48Ά900 running bales for August onwards shipment. Although there were 13 markets on the buyers list, China was by far the most dominant at 59Ά600 running bales. Shipments continued to be impressive at 228Ά400 running bales, reducing the amount of outstanding sales to just 1.84 million running bales, which is 1.05 million bales less than a year ago.
The strength of Chinese imports continues to take the trade by surprise! Armed with new quotas, China is currently on track to import at least 13.0-13.5 million bales by the end of July, thereby handily beating the recently revised USDA estimate of 12.0 million bales. In doing so, China is once again squeezing remaining ROW supplies to very tight levels and this situation might not change by much in 2014/15.
LetΆs assume that the ROW produces a surplus of 12 million bales next season, which is still a big IF considering the current lack of rain in West Texas and a potentially weaker than expected Indian monsoon. If China were to import 8-10 million bales next season, which now seems likely, then ROW stocks would only recover marginally from the very depleted levels at the end of this summer. Since some of the recently issued processing quotas as well as additional sliding scale quotas earned through current Reserve auctions will only be used later this year, they will count against 2014/15 statistics and provide a solid plateau for Chinese imports next season.
Although this stronger than expected pace of Chinese imports may defy logic given their massive stock level, we have long since learned that China marches to its own drum and that we need to be careful when assessing the situation through western eyes. Furthermore, as the 2010/11-season has shown, there is always a certain level of uncertainty when it comes to Chinese statistics. Back then inventories were greatly overestimated, which set the stage for the historic bull market that followed and maybe we are in for another statistical surprise one of these days!
Take the recent yarn output numbers for example, which have averaged around 3.1 million tons per month so far this season. This number includes all types of fibers and as we all know cottonΆs share has been declining significantly in recent years. Nevertheless, at 7.8 million tons of mill use in China, or 0.65 million tons a month, cottonΆs share would amount to just below 20%, after taking a six percent waste factor into account.
By comparison, five years ago monthly yarn output amounted to 1.95 million tons per month, while annual mill use of cotton was at 9.6 million tons or 0.8 million tons a month, which resulted in a share of nearly 39%. The contrast becomes even more pronounced if we go ten years back in time, when yarn output was a mere 0.86 million tons per month and mills used 7.0 million tons of cotton or 0.58 million tons a month, which implied a 64% share. Has cottonΆs share in the spinning system really dropped from 64% to 20% over the last ten years or could it be that current cotton consumption is understated?
So where do we go from here? Speculators seem to have taken a renewed liking to the cotton market this week and the trend is going their way. The trade on the other hand still struggles with its short position and time is starting to become a factor. So far most traders have kept their cool, but we are not sure that will remain the case if the market continues to push higher. There are still over 3.0 million bales in unfixed on-call sales on July and merchants need to get out of basis-long positions, which are getting worse by the week. This set-up makes the market vulnerable to an explosive move to the upside!
We still like December and feel that it has the potential to move into the high-80s, supported by the strength in the spot month, an empty pipeline in the third quarter and a worrisome drought in West Texas.
Best regards
