The cotton market collapsed this week. I think that is enough said with respect to a recap. We missed the call this week and we will try to do better next week.

If a screenplay was written and a movie produced about the current cotton market it could be aptly titled, copyright infringement notwithstanding, ItΆs Complicated.

We will try to explain.

This week ending May 15 saw net export sales of 360K RBs, a number that took the current MYs total commitments to nearly 102% of the USDAΆs 10.4M bale export projection. Shipments were a strong 197K RBs. US carryout for the current MY will be coming down.

The bulk of sales were to China (nearly 270K RBs) and were rumored to be the result of two large merchants significantly narrowing their basis to avoid the July – Dec inversion that has been much lamented by the trade.

Because of diverging fundamental factors between the old and new crop years, the inversion is unlikely to go away. Merchants know that they have no incentive to carry stocks through the current inversion, especially when those stocks are not competitive with stocks from competing origins.

Hence, there is incentive for merchants to hold onto stocks in their warehouses that would only be competitive to the US domestic and Latin American captive export markets. For evidence of this, see the recent large bargain sales to China and certificated stocks that exceed 430K RBs (in a very tight stocks environment).

I have participated in many crop and market information gleaning calls with USDA from the merchant side. I imagine generic conversations included the phrase “..oh, yes, ending stocks must be raised for this year, based on recent sales and demand…”. This, basically, translates to “they really, really need to come down and a bump in this yearΆs carryout projection would very much help us move some of this cotton that we have little interest in carrying”.

One benefit for the merchant was that they would be afforded the opportunity to purchase cotton from the board for Dec delivery as it moved lower with the front month on increased carryout/carryin. Such would result in less pressure to compete on basis in the country for US stocks that many believe to be very much at risk for the current season.

Further, since the US requires 1.5M to 1.7M bales of old crop carryout – bare bones minimum, not a bale to spare – basis to domestic and captive Latin American entities would only be constrained by the cost incurred by these entities to source cotton of similar and reliable quality from other exporting nations. Hence, the merchant community will collectively desire this amount of US carryout, but very little more.

Merchants, in general, are friendly Dec, especially without continued and significant rainfall over West Texas throughout this growing season. We know of one merchantΆs advice to one of its better customers this morning (both of whom shall forever remain nameless herein, as well as everywhere else) to “…lift futures hedges applied above 83.00…” which implies that Dec futures, at least in one merchantΆs view, are likely to move higher.

Timing has been just right for all of this – the USDAΆs increase of ending stocks last month, historical Memorial Day showers falling over parts of west Texas and the waning life of the July contract, which inspires specs to liquidate rather than build positions (especially with certificated stocks near their current level) – has helped nearly every sector of the industry, it seems. Well, except for those who actually produce cotton.

Mills can source quality US cotton more economically and are now able to fix on-call commitments at a more reasonable level, although 29K commitments remained against July for the week ending May 16. Merchants will be forgiven the debt, in part at least, of carrying stocks through the July – Dec inversion.

Looking forward, daily volume weighted average prices and average intraday low prices over the sales reporting period to be addressed in ThursdayΆs US cotton export report are each at an approximate 200-point discount vs the assay period reported upon this week. And the last time low prices touched current values (weeks ending Jan 2 – Feb 27) net sales averaged 183K RBs per week.

Speculators reduced their net long positions for both futures and futures and options combined for the week ending May 20 while increasing spreads. Funds will be rolling longs out of July, which could effectively end its tenure as the front month as early as the end of next week.

Technically, both Dec and July have reached their 50% retracement levels for the recent bull move. Momentum oscillators are oversold and our proprietary analyses pretty much calls it a toss-up. Both contracts must deal with rainfall totals this weekend over west Texas, but each may also get a bump from a US export report that we expect will show further tightening of the balance sheet.

For July, we will call it 85.00 – 89.50 on the inside or 84.00 – 92.00 on the outside; for Dec, letΆs say 78.00 – 81.50 on the inside or 76.50 – 83.00 on the outside.

Louis W Rose IV, PhD has worked with cotton as a producer, consultant, analyst and trader. Rose holds degrees in Education, Agriculture, Plant Science and Business (MBA) from AR St Univ, OK St Univ and the Univ of Memphis, respectively. He has held positions with Aon Reinsurance and Cargill Cotton. Rose currently provides analytic services for various clients and media outlets and is the co-founder of Risk Analytics, LLC, producers of The Rose Report, which he authors. For more info on The Rose Report or analytic services, please visit: www.rosecottonreport.com.

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