New York futures moved slightly higher over the holiday period, as March gained 71 points since December 19 to close at 84.04 cents.
The market tested and successfully held the important 82 cents support level when it briefly dipped to an intra-day low of 81.42 cents on December 23. By holding support, the market managed to attract additional spec buying, which prompted it to rally above 85 cents in the last four sessions, although its highest close has so far been 84.66 cents on December 27.
The CFTC report as of December 24 revealed that speculators continued to expand their net long position by another 4,617 contracts to around 2.8 million bales net, while Index traders added 3,134 lots to their net long position for a total of 6.7 million bales. The trade is, as usual, on the other side of the ledger, with a rather large 9.5 million bales net short position, after adding another 7,751 contracts during the week before Christmas.
A part of this large trade net short position seems to be tied to the sizeable amount of unfixed on-call sales. On December 27, these amounted to 54,731 contracts, or about 5.5 million bales, of which nearly 5.0 million bales are based on current crop March, May and July futures. Mills continue to secure supplies at a rapid pace as evidenced by the latest U.S. export sales report. Yet, many of them are deciding to leave the price open, hoping for the market to give them an opportunity to fix at a lower level.
Merchants who make these on-call sales to mills often sell futures to lock in the price. Eventually, these short futures will have to be bought back when mills are ready to fix the price. This often turns into a Catch-22 for mills, because these large on-call positions build strong underlying support that prevents prices from falling. When too many of these mills procrastinate with their fixations, it can cause the market to rally.
There is another bullish component to all this on-call business. By buying on-call rather than fixed price, mills tend to buy larger quantities, which, in turn, make for impressive U.S. export sales reports. This explains why higher futures prices have so far been unable to deter demand in any significant manner.
U.S. export sales for the week that ended December 19 – during which March futures traded between 82.34 to 83.72 cents – still amounted to a rather strong 230,200 running bales for the current season and 20,700 bales for the next marketing year. Once again, 19 different markets participated in the buying, which shows that there is still broad-based demand for U.S. cotton. Total commitments for the season now amount to 7.5 million statistical bales, of which 2.9 million bales have so far been exported.
Reports that the Chinese government would stop stockpiling commodities such as cotton or soybeans and instead support farmers with direct subsidies kept traders busy over the holidays. While such a policy change has been widely anticipated by the trade, it nevertheless sparked some debate as to what the impact on global cotton prices might be.
Most observers agree that the new policy will likely lead to smaller cotton production in China over the coming years, which, from a statistical point of view, may be seen as supportive to prices. However, as we have learned over the past three seasons, world prices pay relatively little attention to the global balance sheet, since they have held firm despite a near doubling of global stocks from 50.2 to 96.4 million bales. The reason for this is that the entire inventory increase occurred in China, while the rest of the world (ROW) stocks actually declined by half a million bales, from 39.6 to 39.1 million bales.
Thanks to its generous stockpiling program, China has absorbed the entire production surplus in the ROW over the last three seasons by importing a lot more cotton than it needed. This, in turn, has kept world prices well supported, but is likely to change under the new policy. China is now switching from accumulating stocks to reducing them over the next three to five years.
So where do we go from here? The market seems to be well supported at 82.00 cents, but has so far struggled to climb above the 85 cents, which suggests that it is not yet ready to break out of this range. However, since the trade is nearly 10 million bales net short in New York, we expect it to be a net buyer of current crop futures over the next four to five months, as mill fixations and the unwinding of basis-long positions are going to outpace any remaining grower hedging.
At the same time, speculators have no reason to abandon their newly-established longs and may actually add to them, since the chart looks constructive. This means that apart from some near-term Index Fund selling due to the annual rebalancing, there are going to be more traders wanting or needing to buy the market, which could force values higher.
THE ABOVE IS AN OPINION, AND SHOULD BE TAKEN AS SUCH. WE CANNOT ACCEPT ANY RESPONSIBILITY FOR ITS ACCURACY OR OTHERWISE.