Cotton futures broke out of a month-long trading range and surged to the highest level in over a year on Nov. 11 on spec trading. But the excitement didn’t last long.
“Much of it was absorbed by trade selling,” said Mike Stevens with Swiss Financial Services, speaking at the Ag Market Network’s November teleconference.
“What was interesting was that the trade orders were not to stop the market, or what the floor calls iceberg orders. They were just simply hitting bids that come in on the exchange. Once the buying slowed down, it left a void behind and the price came down quickly.”
The price breakout hit a high of 70.61 cents before settling for the day at 67.30 cents. Trading volume on Nov. 11 “was the highest since Nov. 13, 2008,” Stevens said. “Open interest had risen to the highest since Oct. 1, 2008.”
Texas A&M Extension economist John Robinson says supply questions about the U.S. cotton crop are close to being answered with USDA’s Nov. 1 Crop Production Report.
“It’s my guess that with this USDA report, that the biggest adjustments in U.S. production have been made. Therefore, from a fundamental standpoint, there’s really not that much for the market to be chewing on.”
On the other hand, cotton quality could have an impact on cotton futures, according to Robinson. “We have a bunch of rained-on, discolored, and otherwise lower quality cotton around, mostly in the eastern part of the Cotton Belt. And Texas may have the largest supply of higher quality cotton.
“If a lot of cotton is placed in the loan, we’ll have some early redemptions as the higher quality gets marketed, then a lot of the poorer quality crop is going to sit in the loan until early next summer.”
Robinson says the dynamics of how the U.S. crop is marketed could be dictated by quality factors.
“What will ration the higher quality cotton that’s in short supply? That’s a near-term dynamic. If I was buying call spreads, I’d be thinking about that in the near-term, as opposed to what’s going to ration lower quality cotton later on in the year.”
Robinson added that current cotton prices for December 2010 of around 75 cents “could induce more U.S. and foreign cotton acreage” and is a similar situation to market conditions in 2004. “Cotton traded in the mid-60s in January 2004, then fell 15-20 cents. It’s just something to keep in mind when you’re thinking about forward pricing.”
Robinson added that as of Nov. 11, growers “are in the range where they can lock in net prices with December 2010 in the low 60s to high 60s with put strategies, based on what’s been happening the last couple of weeks. Ultimately I see December 2010 futures declining.”
A positive for cotton is USDA’s November projection for a million bale increase in world consumption, Stevens noted. “That could mean that USDA is seeing the end of the recession. You can cut supply all day long, but the consumer takes the shirt off the shelf, and that is the most encouraging thing. I think it’s going to put some support beneath the market.”
The analysts also reacted to a heavily-distributed prediction by economist and hedge-fund manager Dennis Gartman that cotton futures would rise to a dollar over the next 18 months because of yield losses due to heavy rains in the Mississippi Delta.
“I’m a Dennis Gartman fan,” said Stevens. “But I think he’s off base where he thinks cotton can go. But I believe he’s also looking through the eyes of the funds, not the fundamentals. I guarantee, you can find fund managers who think that what happened in March 2008 can be repeated again this year, and if they have their way, it will be.”
“If you repeat March 2008, you also have to repeat September/October 2008,” Robinson added. “You put gasoline on a fire and you’ll have a big whoof.”
“It comes back to bite you,” Stevens said. “It ruined the markets and ruined a lot traders and commercials.”