Rose on Cotton: Forward Contracts – Read the Fine Print or Get Help Before Signing
The ICE May contract and the nearby May – July spread effectively finished unchanged on the week on extremely strong demand data and bearish new crop acreage data. The Dec contract was less affected by the torrid pace of US export sales, giving up 140 points on the week to settle at 74.09. The July – Dec spread (straddle) strengthened on the week at an inversion of 450 points.
Things are definitely setting up to become interesting as 2016/17 draws to a close.
In their Prospective Plantings report (based on surveys through Mar 18), the USDA indicated US producers intend to plant 12.2M acres of cotton in 2017, 12M to upland type cotton. The projection put forth today was above nearly all published pre-report expectations, including ours at 12M acres. Some low estimates were more than 1M acres off the USDA projection. Florida was the only state in which the USDA projected planted acreage at a reduction Vs 2016, and this was no doubt due to attractive cash peanut contracts.
The USDA’s expected yield and abandonment figures project US production of 18M+ bales; if the US has another better than average year a crop of 20M+ bales is not difficult to imagine.
But the story does not end here. An examination of CME Nov soybean and Sept corn prices since Mar 18 and the relative level of acreage projections by state suggest that 2017 cotton planted acreage could ultimately be realized at 12.5M+ acres. Of course this is not bullish news for the Dec contract. On the other hand, with only a tiny fraction of US acreage sown thus far, the market will be subject to volatility due to weather prior to and during the upcoming planting, growing and harvest seasons.
In the end, the greatest obstacle to further increases US area committed to cotton may be recent limitations of infrastructure.
I think that it goes without saying that, if significant issues are encountered (particularly across West Texas) Dec prices could certainly move higher. But subsoil moisture there is reportedly mostly adequate and northwards thereof. The market will likely not react in a friendly manner to normal planting rains around the Labor Day holiday, should they occur this year.
On the demand side, US export sales and shipments are not merely holding their own at a tremendously strong pace, but they are actually gaining ground week-on-week. Total net sales and shipments for the week ending Mar 23 were approximately 402K RBs each, with nearly another 90K RBs sold against the upcoming marketing year. The US is now effectively 100% committed Vs the USDA’s export target of 13.2M bales (which we now think can ultimately be realized at 14M – 14.5M bales).
More on Cotton
The level of mill on-call commitments against the May and July contracts remains a supportive factor. However, the most recently available data suggest a willingness of some mills to fix price on contracts near 76.50 – 77.50, basis the ICE May futures.
There seems to be more interest in the country to forward contract cotton, but it’s worth noting that the offered basis remains in a tight 25 to 50 point range between competing merchants. This means the primary differences between contracts fall into the several pages of fine print that accompany a commitment. Producers would do well to either study those terms or employ someone well versed in dealing with basis contracts to do so for them, because an extra 50 points in the basis aren’t nearly so attractive if quality premiums, mandatory fixation dates, or penalties take them back later in the season.
The market has given producers plenty of time to make a marketing plan, and the gurus have offered a broad consensus on strategy. Just be sure you take the greatest possible benefit from this and sign a contract you understand and offers terms you can live with.
Producers who have followed this broad consensus and have fixed or hedged ¼ to 1/3 their estimated production should probably look at rallies to and above 7550 to bump that portion closer to ½ prior to planting, with an eye towards having cotton available to take advantage of May/June weather rallies.
For next week, the standard weekly technical analysis for and money flow into the May contract remain bullish. Index funds will continue to roll long positions out of May next week while specs will likely do the same. At this time, rallies on old crop futures look to be selling opportunities.
Have a great weekend!
Louis W Rose IV, PhD has worked with cotton as a producer, consultant, analyst and trader. Rose holds degrees in Education, Agriculture, Plant Science and Business (MBA) from AR St Univ, OK St Univ and the Univ of Memphis, respectively. He has held positions with Aon Reinsurance and Cargill Cotton. Rose currently provides analytic services for various clients and media outlets and is the co-founder of the Rose Commodity Group. For more info on Rose Commodity Group or services offered, please visit: www.rosecommoditygroup.com
The bulls were again winners in an exciting week for longs and producers. In last week’s report, I said the markets bias would be near unchanged to a bit lower.