Cotton bulls extended their weekly streak to eight on a tightening world balance sheet and continued strong US export sales business, with the Mar contract gaining 220 points on the week (around 900 for the current streak). The Mar – May spread finished the week slightly stronger at (40) points.
This weekly win was far more impressive than was the one for the week ending Dec 7, and that is most likely due to relatively bullish fundamental data updates. Our models again turned out to be correct for the third consecutive week, but we were wont to trade their predictions ahead of the Dec WASDE report’s release.
Without completely re-hashing the USDA’s updated figures, suffice it to say that the bullishness was most on the demand side, with government workers predicting total world consumption for 2017/18 at nearly 119.6M bales – and we do not disagree, at least on the downside. Indian beginning stocks were finally lowered significantly, something for which many analysts have been calling for a few months, at least. It is further true that the entirety of the nearly 3M bale reduction to world carryout was outside of China. Still, for all that, projected aggregate world ending stocks of 88M bales can hardly be taken as an outright bullish figure.
The USDA marginally increased yield per acre estimates by 2 lbs. per acre, bringing the overall average to 902 lbs/acre. If this figure is realized, it will certainly be a record for the US. Texas average yield was increased 33 lbs/acre from Nov projections which offsets decreases in the Southeast and Mid-South territories. Total overall production is now expected at 21.44 million bales of cotton. However, projected ending stocks were trimmed 30K bales – on an expected increase in export business – to 5.8M bales. This is not a bullish figure in any stretch of the imagination.
So why does the market continue to move higher?
Mostly it is at the hands of speculators (both technical and fundamentally driven) and by some mills that had to cover their on-call commitments. Producers have sold the current rally very strongly, which brings to mind the adage “the specs have more money than the trade has cotton” – much more.
The speculative sector can continue to add to an aggregate long position that makes little fundamental sense for two main reasons: 1) there are few ICE certificated stocks (at this time) to caution them of being the victims of a squeeze and 2) the large mill on-call position, which is now a total of nearly 14.75M bales (nearly 112M against the current marketing year and more than 5.5M against the Mar contract).
It is not intuitive that the aggregate mill on-call position should continue to expand (and it is) but it really does make sense. That is, as futures prices have climbed, merchant basis offers to mills have continued to weaken, and mills are willing to buy favorable basis in hopes of the market moving lower from its current perch. This is inherently more likely now than it was 900 or so points ago. And, we iterate, that the mill on-call Vs the producer on-call position is not straightforward, but the outright number of contracts associated with mill basis purchases is staggering.
Producers continued to sell the rally this week, and merchants fed the enthusiasm by contracting unginned and unclassed in warehouses offering prompt delivery. We continue to think it makes sense to sell cotton into a combination of strong basis and rallying futures, and think longer term bullish hopes are best expressed in the options pit.
For next week, the standard weekly technical analysis for and money flow into the Mar contract remain bullish, with the market finally having achieved a technically overbought condition on a weekly basis. On a daily basis the market is much overbought. The market will, of course, eventually move lower with 74.50 the current 50% retracement mark.
Have a great weekend!
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