Potential Supply Squeeze Could Push Market Higher
Cotton prices closed 175 points higher on the week, thanks to a 106 point rally on October 28. New news was hard to come by, except for the bearish ideas of larger crops in both India and the U.S. Nevertheless, the bulls won the week.
The potential for a December squeeze continues to expand, and one has to wonder how mills could have been sleeping for so long. Regardless, mill call sales dwarf call purchases. Thus, the necessity for traders to buy futures far exceeds the need to sell the market. Too, shorts are stuck with an increasingly difficult path to find cotton to deliver in the timed delivery period.
With December first notice day just around the corner (November 23), there can be little time to bring cotton to the board. The emphasis is “little” time. It is possible to certificate enough cotton to avert a squeeze, but time is running short, and price manipulation fever is running high as warehouses are busy taking in the new crop harvest and exporting the few remaining bales of old crop in storage – as well as a few bales of new crop.
Thus, the range-bound December contract is left to trade the mills’ idea of prices between 67-69 cents, and the potential squeeze factors that could push the December New York contract to 75 cents and beyond.
Growers wanting to fix prices on the December contract must do so before first notice day, so the November 23 date looms large. Any price premium associated with the potential squeeze will likely not be reflected in the March contract after the first notice day. Thus, in a most unlikely scenario, growers may find the December contract to be most favorable pricing month of the year. As atypical as it is, mills are close to being caught with their market pants down, well below their knees.
Additionally, open interest is at an eight year high, and the only contract month showing any decline this week was the December contract – which was expected in that first notice day is only three weeks away, and fund managers have already begun their long index fund rolls to the March contract. Thus, the stars appear to be lining up for a battle between the 69 and 75 cent level. For example, December options expire in two trading weeks (November 11). Additionally, it was evident all week that mills and others needing to buy the market were having to “pay up,” i.e., to increase the price of their bid.
The market did not seem to come back to any business.
Conversely, prices appeared to ease higher as bids closed in on an offer. There were nearly 42,000 in-the-money December calls as of the weekly close. Additionally, there were another near 20,000 within some 411 points of the weekly close, and the price momentum is up.
Traders are advised that it will not be a walkover to ring the bell for another 400 or more point gain in the coming 10 days. However, the stage is set, as supply and demand of cotton will not be at center stage in the next few days, but rather the mills’ ability to get their fixations done in a very orderly manner and for funds/mills to roll to the March/May/July contract. Mills may have more success in rolling to the May/July as opposed to the March.
Physical business (exports) is expected to remain slow during the coming two weeks, as traders draw arms – and maybe even blood – as the market looks to keep pressure on short traders. Price volatility will remain high, and triple digit days will continue until November 23 when the March contract becomes the spot month.
The 2016 crop is well hedged. Thus, near term merchant hedging is not present to pressure prices lower. However, the arrival of the Indian crop is pressuring Indian prices and can impact New York. In usual times, the trade could help force prices lower. But with little hedging to do, they will not be on the selling side of the price equation.
A trade above 72.50 cents could draw more speculative fund buying, but, again, the market will key on a potential squeeze for now. The 67-68 cent price floor is solid for the coming three weeks.
Give a gift of cotton today.