This week’s market action was a mirror image of what happened a week ago when the bulls tried to generate some upside momentum and failed. This time around it was the bears that tried to get something going to the downside, but today’s sharp rebound nixed their plans as well. In the end the market found itself right back in the middle of a 5-month sideways trend without any clear direction.
The big story this week was the abundant rainfall in West Texas, with some stations receiving up to six inches. While this rain event increases the yield potential of the standing crop, it comes too late for many dryland acres that have been canceled out by insurance adjusters in recent weeks.
It is therefore difficult to ascertain what the impact of these rains will be in regards to increased production potential, but our guess is somewhere north of half a million bales.
Other than Texas we also keep hearing encouraging news out of India, where traders see a bumper crop in the making that may exceed last year’s output by 10 percent or more. The USDA just raised its target for the Indian crop by a million statistical bales in its latest report and this number may prove to be conservative.
Before the bears get too excited about all these rosy production estimates, we would like to add that consumption in India is apparently making great strides as well, with retail sales of cotton products showing consistent growth, which should mitigate the impact of a record crop to some degree.
While the improved production outlook in Texas and India are valid reasons to temper bullish expectations, we disagree with those who cite the slower pace of US export sales and Chinese imports as signs of a weakening market!
Sure, US export sales of 100’600 running bales for Upland and Pima are not what they used to be a few months back, but that has more to do with a lack of available cotton than weak demand. The US started this season with total supply of 20.7 million statistical bales, of which 14.0 million bales have so far been committed for export, while domestic mills will use up 3.4 million bales by the end of July.
This leaves theoretically 3.3 million bales available, but we need to reserve at least 1.0 million bales for domestic mill use before new crop arrives, and then there are export commitments of 2.2 million bales on the books for shipment August onwards, of which an estimated 1.5 million bales will be supplied from existing stocks.
If this assumption is correct, it would leave only around 0.8 million bales of current crop cotton for sale, certified stocks included. Seen in this light, the current pace of US export sales isn’t that bad after all!
The same goes for weekly shipment, which were seen as “disappointing” by some analysts at just 139’800 running bales, giving rise to speculation that something may be wrong on the US export front. Again, we need to look at it in the context of what is still there to be shipped! The latest report shows that only 1.26 million running bales of Upland and Pima cotton have yet to be exported, which even at this slower pace will take just 9 weeks to accomplish.
In other words, all outstanding commitments are likely to be gone before the middle of September, hardly a reason to ring the alarm bells! We wonder what the headlines will read at the end of September, when the shipments will be next to nothing, because old crop will be all but gone and there is no new crop available yet?
Chinese imports are portrayed as another “glass half empty” story with which we don’t agree. In June China imported 1.24 million statistical bales, which was 22 percent less than the month before and over 43 percent less than in June 2012.
Nevertheless, for the first eleven months of the current marketing year China has already imported 18.8 million bales and we are right on target to make the 20.0 million bales the USDA projects for the 2012/13-season.
Moreover, anyone who has paid attention to the latest USDA report should know that Chinese imports are expected to drop to only 11.0 million bales next season, or an average of just 0.92 million bales per month.
In other words, we are simply in an anticipated transition to lower Chinese imports and the June number was actually still a lot higher than what we expect Chinese imports to be from August onwards.
So where do we go from here? Although the overall sentiment seems to have turned a bit more bearish this week, we need to remember that a) current crop stocks remain extremely tight and b) new crop has still a long way to go.
Therefore, we don’t expect to see too much price pressure on December, especially since the trade is already sitting on a rather large net short position in New York. According to the most recent CFTC data, the trade was 13.9 million bales net short on July 9, which compares to just 7.7 million bales net short a year ago.
This large of a short position is rather remarkable given the smaller US crop next season and it leads us to believe that the trade may already have spent a lot of its ‘bearish bullets’. Therefore, unless there is widespread spec long liquidation, we see it difficult for the trade to force the market down before the outcome of new crop is known. In the longer term, for March delivery and beyond, we feel that the odds favor a slightly lower market, especially if the Northern Hemisphere crops turn out as well as expected.
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