NY futures continue its powerful rally this week

19 Feb '10

6 min read

A big part of the problem lies with the on-call position. Although the market was trading below 70 cents for a couple of weeks and some sales have been fixed, we have actually seen a net increase in unfixed on-call sales to 5.6 million bales as of February 12, of which 3.3 million were on March, May and July. In other words, mills have missed a golden opportunity to fix the price on their outstanding commitments and are now once again chasing after the market. Between now and June mills will have to fix no less than 33'000 contracts in a market that will become less and less liquid.

It certainly didn't go unnoticed by traders that the cotton market was able to divorce itself from some of the negativity in outside markets, like a stronger dollar index or the weakness in grains. Again, this has to do with the fact that most of the spec net long position has been liquidated during the previous sell-off and we therefore don't have a lot of specs left that might react to what happens in the outside markets. Index funds are only to a limited degree susceptible to outside forces and the huge trade short has other things to worry about over the next three or four months. We therefore have a cotton market that is running its own show at the moment, similar to the dynamics we have seen in the sugar market for example.

So where do we go from here? Although nearby futures have shot up ten cents straight and a correction may seem more than overdue, there is no guarantee that the market will comply. This is a dangerous bull market that is being fueled by a large number of trade shorts trying to get out and specs longs trying to get in, with not much liquidity on the other side. Traders are waiting for dips, but eventually they find themselves chasing the market after several unsuccessful attempts to catch it.

As far as the spread between current crop and new crop goes, we seem to have the proverbial "one bird in the hand is worth two in the bush" scenario. It doesn't do mills any good to know that there will be plenty of cotton in November if they still need to cover or fix a large amount of supplies between now and late summer. This should keep May and July well supported, while December may see pressure from forward contracting of new crop. Although the May/Dec and July/Dec spreads have inverted to 479 and 455 points, we expect these inversions to expand further over the coming months.

The current set-up reminds us of previous bull runs, with the events of early 2008 still fresh on traders' minds. Whether we will see a similar occurrence this time around remains to be seen, but we would advise anybody who is still short May or July not to take any chances and to get out of harms way or at least buy some protection.

Plexus Cotton Limited

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