New China Cotton Policy Will Create Shifts and Changes, but Should Stabilize Long-Term Price

Occasionally, something comes along and grabs your undivided attention like the sharp, crisp crack of a whip. There was big news in the cotton market this past week, but it seemed to pass by with little fanfare.

Over the weekend past, Chinese authorities announced that the State would no longer support a strategic reserve for cotton. The meaning – clear, plain and simple – was that cotton production and cotton-related industries would no longer be shielded from the forces of the free market. Also that weekend, the price of cotton in India began to drop following the prior week’s increase that led New York 400 points higher and retested the 88 cent level.

With New York set to drop on Monday’s opening due to the weakening Indian price, the market reversed and moved higher in response to the Chinese announcement, leaving most in the market asking, “Why are prices moving higher, when they should be moving lower?”

What was misunderstood by most – but not by the market – was that the announcement out of China was bullish, not bearish.

The Chinese announcement was the punch that slammed right into the middle of the cotton market, screaming bullish all the way. The State no longer felt it was necessary for China to devote significant land area to cotton production. It indicates that Chinese domestic textile mills – those that are needed – can source their raw cotton on the free market.

Put another way, it means that the large multitude of old, outdated textile mills, along with their massive employment base, are no longer a priority for the State. The old mills are too inefficient to operate, and the labor force is already transitioning away. Other industries have surpassed the textile industry, and the country’s economy remains well entrenched on its path of change and its longer-term trek toward maturity.

Just as it occurred in Europe of the 1800’s, Japan and South Korea in the late 1900’s and the U.S. in the early 2000’s, the textile industry has now laced up its track shoes as it departs China. There is nothing spectacular about it. It is just the way the world turns.

While the industry has – and will keep – a footing in Indonesia, Malaysia, Bangladesh and a few other locations, the darlings (or soon-to-be darlings) of today’s world cotton industry are Vietnam, Cambodia, Laos and Myanmar (Burma). Vietnam and Bangladesh are the current hot spots, and Vietnam will get hotter.

India also has a long history of textile production, and I have long claimed that one day it will have the world’s largest textile industry. It has surpassed all but China and will do that sooner rather than later.

The Chinese announcement telegraphed its intention that it would close its national reserve in a very orderly marketing way so as to not impact the world market. It is definitely in their best interest to do so. The impact in-country will be to allow both cotton plantings and production to decline, allowing other countries to seed more land area to cotton than thought just weeks ago.

That is not to say there will be an explosion in world plantings. On the contrary, planting will likely be down during the coming season, yet the planters will roll just a little bit longer in coming years. The U.S. will be firmly entrenched with 11.0 to 11.5 million acres under cotton, likely into the 2020s. Yet, cotton will still be a commodity, and thus, will find favor mostly in those areas of low cost production regions.

Just two months ago, I began a switch to becoming a long term bear. The Chinese announcement changes all that. I may not be a big ol’ fat bull, but there is a lot of good grazing in front of me. Quality remains the key word and will keep a firm bottom in this market for months to come. The 82 to 83 cent level will be the low mark.

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don shurley
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