As Bulls and Bears Wrestle, Call Options Are Good Options

Something is chewing awfully hard on my backside, and it feels very much like that Bear I buried two weeks ago. Surely not! The supply demand numbers clearly say the Bear is dead. In fact, look for the December report to be even more bullish.

However, the government/political-related fundamentals are working to limit any price advance. We have tweeted and written about those fundamentals all year, and they simply will not go away. March became the spot month this past week, and prices dovetailed a bit as the 67-68 cent March contract fell back near the expiring December contract’s 63-65 cent level. This was not atypical. In fact, it is the typical market action when the spot month changes. Typically, when the lead month (December in this case) moves into its notice period, the following month (March in this case) moves to the expiring month’s price levels.

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March, sitting at 64.85 at week’s end, must return to a solid close above 65 cents to maintain its momentum and allow the wobbly-legged baby Bull time to grow and mature. When we buried the Bear, it was stated it would be a difficult growing-up period for the newly birthed Bull. We are certainly seeing that.

Thus, March is now set to trade the 64-67 cent range. Yet, we may yet see short term price slippage below 64 cents. Growers should hold off on any selling with March below 65 cents. In fact, growers who hesitated to sell with December at 65 cents will need to hold off on any pricing below a March trade near 66.50 cents just to break even with the prior 65-cent offer based on December.

However, Cotton’s Great Man, the departed Joe O’Neill, always begged and pleaded with growers to sell the physical product and replace it with a call option. Year after year, he presented solid research that the strategy worked 80-90% of the time. What did he know? He was the functioning President of the New York Cotton Exchange for 30 years and annually was selected as one of the top men of Wall Street.

Too, this year’s conditions are “typical” of the years when his marketing strategy worked to perfection. Why sell the physical? It stops the storage and carrying costs associated with owning the physical bale. Those costs exceed the cost of a call option and, more importantly, allow the grower to receive all the increase in market price.

Export sales and shipments continue to forge ahead of current USDA estimates. While both are ahead of historical averages for the year, it should be noted that shipments are beginning to wane a bit. However, exports remain bullish for prices and should remain so.

The fly in the ointment remains the Chinese situation, and I do not mean the tariff scuffle between the two countries. First, we have written and tweeted about the invasion of Chinese troops into Hong Kong. This has dramatically escalated the dispute with China, so much so that the U.S. Democratic party joined President Trump in near unanimous fashion condemning China. Western Europe, Australia and the U.S. are closely watching the situation, and it has the potential to derail any and all attempts for a rally in cotton prices.

Others have written extensively about Hong Kong’s freedom, and that is the important element of the discussion. But it is closely tied to trade and manufacturing and has the ability to create a major bearish event. If fact, this week’s dive in cotton prices was directly related to the invasion by Chinese troops and not the long, drawn-out tariff battle.

The long, drawn-out tariff battle is likely to continue to be just that – long and drawn out. Cotton has little to gain by a quick resolution. Many in the cotton industry have failed to protect cotton’s future and are content to allow foreign-produced cotton to be brought into the U.S. at “dumping” prices. Until the U.S. cotton industry finally gets a grip on that, China will be able to get away with skirting any agreement it makes with the U.S.

Not until the U.S. cotton industry couples textiles with raw cotton import/export activity will the American and other non-Chinese cotton growers benefit equally with the Chinese grower. For this reason, I do not expect a quick resolution to the situation. Comments to date have been little more than lip service, but without a clear understanding, speculators have been able to keep prices depressed.

Buy the call option.

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