Cotton Market Update for the Week Ending Friday November 16, 2018

The week ending Friday November 16  saw ICE cotton futures drop about two cents over two days, then gain a half cent back over two days, then wind up flat on Friday after a 100 point gain collapsed in the last hour of trading. Friday’s early strength came despite the late release of another weak export sales report and further softening of the longstanding bullish picture of export commitments.  Ongoing bullish supply fundamentals included an ongoing rainy harvest scenario in the eastern Cotton Belt.

The Mar’19 contract settled on Friday at 78.29 cents per pound, while the Jul’19 and Dec’19 contracts settled the week at 80.71 and 77.21 cents per pound, respectively.  Chinese and world cotton prices were mixed this week.

A sample of option premiums on ICE cotton futures saw changes from the recent change in the the underlying futures.  On Thursday, November 15,  an in-the-money 85 cent put option on Mar’19 cotton was worth 7.7 cents per pound, up fro 6.17 cents per pound two weeks prior when the underlying futures were a little higher.  On November 15 an out-of-the-money 75 put likewise cost 1.38 cents per pound, about 21 points higher than two weeks prior.  Looking way out there, a near-the-money 75 put on Dec’19 cotton settled November 15 at 3.49 cents per pound, up from 3.23 cents per pound two weeks earlier.Looking further back, the gain in these put options since August show how put options provide a mechanism for down-side price insurance.  An out-of-the-money 85 call on Jul’19 cotton was worth 2.87 cents per pound on November 15, down from 3.58 cents two weeks earlier.

This week provides another example of the ever present risk of unexpected market volatility.  It can happen in both directions.  For example, a surprise resolution to U.S.-China trade relations, confirmation of extensive hurricane damage, or something else totally unexpected could trigger speculative buying.  As always, the most relevant question is whether a cash contract or a hedge on today’s futures price will be a profitable, or at least survivable, price floor.

Given all these uncertainties, growers should always be poised and ready to take advantage of rallies, and protect themselves from sudden sell-offs. Forward contracting of new crop bales, immediate post-harvest contracting of old crop bales, and/or various options strategies can be used to limit downside risk while retaining upside potential.   Hedges with puts or put spreads on Mar’19 futures can be used to provide near term protection of old crop bales through the harvest season. Contracted 2018 bales could be combined with call options on the deferred futures contracts.  Call option strategies have become increasingly affordable with the recent decline in the futures market. New crop put strategies to hedge the 2019 crop are a straightforward and relevant approach.