Cotton Market Update for the Week Ending Friday June 29, 2018

The the week ending June 29 saw ICE cotton futures slide from the peak of the rally that ended the previous week to finish roughly two cents lower.  Friday saw a sharp intra-day rally that came and mostly went following a surprisingly low Planted Acreage report of 13.52 million acres of all cotton.  (For what it is worth, I was expecting at least 13.8 million acres.)  Other fundamental influences this week included hot and dry weather over the Southern Plains region, and scattered rainfall over parts of the eastern Cotton Belt.   The news on U.S.-China trade situation included conflicting assessments by U.S. officials about the potential for a trade war, which was attributed to U.S. stock market volatility earlier in the week.  The hedge fund net long position declined for the third straight week, in concert with the decline in ICE cotton futures.

Dec’18 settled on Friday up 37 points at 83.92 cents per pound.  A sample of option prices on ICE cotton futures saw changes from the previous week because of the decline in the underlying futures price.  On Thursday, June 28, a deeper in-the-money 90 cent put option on Dec’18 cotton cost 8.98 cents per pound, up from 4.20 cents per pound two weeks ago.  Similarly, 85, 83, and 80 puts on Dec’18 gained in value to settle Thursday at 5.45, 4.27, and 2.79 cents per pound, respectively.  These values highlight the continuing opportunity to hedge minimum cash prices above projected costs of production.  A near-the-money 85 call on Jul’19 cotton cost 5.94 cents, while an out-of-the-money 90 call was 4.38 cents per pound.

This market remains supported by continued long speculative positioning and other demand indicators.  There remains some risk that the remaining hedge fund longs might get further spooked by some unforeseen risk-off event, be it trade or weather related (e.g., a good rain in Texas).  On the other hand, a surprise resolution to U.S.-China trade relations or damaging weather could increase speculative buying again.  I would not at all be surprised by one more good weather rally in the next six weeks.  Nobody ultimately knows how high or low these markets could go.  The only thing you can know for sure is whether a forward 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 consider taking advantage of present (or future) 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.  Contracted 2018 bales could be combined with call options on the deferred futures contracts.  New crop put spread strategies to hedge the 2018 crop are a straightforward and relevant approach.  Competitive bale and acre forward cash contract opportunities in West Texas were available earlier in the Spring, but the ongoing drought conditions and price volatility have put a damper on that.   So grower hedging may be the main tactic to take advantage of the present opportunity.