Market Providing Some Bearish Supply/Demand Lessons
USDA’s July world supply demand report provided an understanding of the demise in cotton prices for not only the past two weeks, but also all the way back to February.
Yes, the Chinese-U.S. trade tiff has played a role, but 2019 world production is expected to be the second highest on record at a time when major concerns are being expressed about world cotton demand. In fact, USDA, in the report, suggested that world ending stocks would increase more than 3 million bales during the 2019-20 marketing season, climbing back to at least 80 million bales.
Increasing world stocks typically suggest that lower prices should be expected.
The report simply spelled out, in numbers, the long-held reaction the cotton market makes following a year when price activity is in the high 80s, 90s, and even in the magic talk of dollar cotton. Simply, prices have long been forecast to fall.
Try as hard as we may to talk the bullish influences, we knew if Mother Nature cooperated that a record crop was on the horizon. While neither the U.S. nor the world crop will reach a record production level, the stocks-to-ratio for the U.S., above 33%, is very bearish. It’s the proverbial sports fans talk of “wait ‘til next year.”
The 63-63.5 cent market support has held, but the market is showing signs of further weakening. A 58-65 cent trading range may be in the near future.
One can make an argument for higher prices, as can I, but the tea leaves suggest higher prices may be little more than just a wish. Yet, it could happen. However, the “typical” price response suggests lower prices in front of us. With any luck, I will be dead wrong, and I hope I am.
USDA increased world carryover for the current 2018-19 marketing year (which ends this month) some 1.7 million bales (350,000 bale world production increase and a 1.24 million bale decrease in world consumption). Note the million plus decrease in consumption. Additionally, USDA increased 2019-20 world production to 125.8 million bales – an increase of nearly 500,000 bales – and decreased world consumption 1.0 million bales. The combined change for both marketing years resulted in a net increase in world carryover of some 3.2 million bales.
This represents a major month-over-month increase in stocks and can be seen only as very bearish. Most of the bearishness was already in the market, so most of the lower price movement will be limited.
However, there is concern of additional demand problems in the coming months. While the U.S. economy is generally viewed as very robust, China, as well some of the major economies in Europe, are facing a marked decline in economic growth. This was noted in USDA’s reduction in its estimate of world consumption. Just as bullish markets are built on increased demand, bearish markets are built on a declining demand.
Estimates for the U.S. were just as bearish, as the combined supply demand adjustments made by USDA for both marketing years exploded U.S. carryover for the 2019-20 marketing year to 6.7 million bales, compared to the final estimates for the 2016-17 marketing year of just 2.75 million bales – or nearly a 150% increase. If current production estimates hold, then U.S. carryover will likely top 7.0 million bales.
All cannot be bearish. Speculators are very short the market, thus there are very few natural sellers in the market. That is, who is left to sell the market lower? Too, a strong hint of a “near resolution” in the China-U.S. trade battle would generate a 2-3 cent rally which could possibly generate a five cent or more short covering rally. Presto, the 70-cent level would then be challenged. However, DO NOT count on it. That is little more than marketing by the principal of “wishful thinking.”
The U.S. crop is beginning to make excellent progress, and forecasts suggest more good progress. Yet, the crop could still suffer from some of the now normal “crazy” weather activity. Yet, in the backdrop, we must remember that U.S. seed companies have provided growers a product that produces both very high yields and quality. Cotton has always been the most resilient of crops. Yet, Mother Nature will decide the ultimate production level.
Nevertheless, by giving us the crop we so wish for, we stand to see prices fall within a mid-50 to mid-60 cent trading range. Once again, the cotton market is trying to teach us how we should use her.
Give a gift of cotton today.