NY futures rallied sharply this week, as December gained 746 points to close at 104.32 cents.
A variety of factors, such as strong export sales to China, an improving technical picture and positive vibes from outside markets, lifted cotton futures to their highest close since September 20. The move came as a bit of a surprise, because physical business, apart from the sales to China, is still rather anemic and news from the yarn market has not been encouraging either.
Today’s US export sales report serves as a good illustration of the one-dimensional market we are currently facing. While commitments to China increased by 397’100 running bales last week, the rest of the world actually cancelled a combined 11’300 running bales net. For the season US export sales now amount to roughly 8.5 million statistical bales, of which 0.8 million were sold under ‘optional origin’. Exports are lagging behind, with only about 1.2 million statistical bales shipped so far, and there is still a lot of cotton to come out of the US this season, adding to the plentiful supply around the globe.
While the effectiveness of the “Chinese put” may have been in question after last week’s decline, recent action by China assured us that its support is alive and well. Not only were Chinese buyers very active on the import front, but the Reserve has also accumulated over 80’000 tons of domestic cotton so far. Since China consumes about 12 million bales more than it produces this season and its stocks of 13.5 million bales are just enough to bridge the gap between crop years, it follows that China will have to be a strong importer and that whatever the Reserve absorbs from domestic supplies will have to be made up by additional imports.
Although Chinese Reserve buying is definitely supportive to the market, because it siphons off excess cotton from a saturated global balance sheet, we need to remind ourselves that this cotton is not being consumed; it is simply being stashed away for a rainy day. Therefore, while acting as support now, it is at the same time building up resistance in the future.
Other than China, it was primarily sidelined money returning to riskier assets that boosted cotton along with other commodities. After Europe seems to have found a way to kick the proverbial can further down the road, investors once again flipped the switch to ‘risk on’ and allocated some money back into stocks and commodities. The S&P 500 is on course to having its best monthly performance since 1974 and the continuous CRB index has gained nearly 5 percent since last Thursday. As we have mentioned before, there is an unprecedented amount of cash ‘parked’ in treasuries and money-like assets and if just some of that money decided to play again, it could turn into the tide that lifts all the boats.
The fact that treasuries were sharply lower this week, while precious metals and the commodity complex were rallying, leads us to believe that investors are beginning to fear inflation and we may therefore just be at the beginning of a new wave of speculative buying. In other words, we may be in for another tug-of-war between money and cotton. In this contest money typically gets its way between notice periods, while cotton fundamentals win the upper hand when the futures market has to reconcile with the cash market during the delivery period.
After the certified stock declined to around 16’000 bales in the wake of the October delivery, it has since been climbing back and measured nearly 34’000 bales as of this morning, including bales under review. A large percentage of this newly certified stock is composed of relatively undesirable high grade/short staple cotton. With the December contract rallying, the board will act like a magnet to any odd bale that is tenderable and considered overpriced in today’s cash market. Therefore, while speculative buying may push the market higher over the next three weeks, we doubt that anyone in the trade would want to take ownership of an overvalued certified stock at negative carry.
So where do we go from here? Speculative buying seems to be in charge at the moment, flanked by support from China, short covering, unfixed on-call sales and chart momentum, which may force the market even higher over the coming sessions. However, for this rally to gain longer-lasting traction we need to see a turnaround in the physical market, with mills becoming more aggressive buyers and the yarn market showing signs of improvement. Unless there is evidence of that, we are not prepared to jump on the bullish bandwagon and instead expect a continuation of the recent sideways trend, with Chinese support limiting the downside and harvest pressure containing breakout attempts.
Best Regards
