NY futures rally this week

31 Jul '10

5 min read

In regards to certified stock (just 47'000 bales as of this morning) the consensus seems to be that merchants won't have much extra cotton, if any at all, that can be shipped to the board once they have applied all their pending shipments, at least not until some time in December.

We are not sure that's true and feel that merchants will try their utmost to divert half a million bales or more to the board in an effort to force carry back into the Dec/March spread. Not being able to achieve this would prove to be very costly to the trade since it will own several million bales by the end of the year. However, the jury is likely to be out until late October/early November when arrivals start moving in and we therefore don't expect this inversion to disappear anytime soon.

Regardless of what happens with the Dec/March spread, we don't see December falling significantly from current levels given the acute shortage of cotton that will last for several more months. There is simply nothing there to push prices lower at the moment, apart from temporary bouts of spec selling perhaps.

But let's not forget that the futures market can and will be used as a source of cash cotton if prices were to fall too low. In the low 70s we would expect takers to be plentiful, while it would be difficult to tender cotton at that level, both from a price and availability point of view.

The story is different for the March contract, especially if the inversion prevails and the basis doesn't improve. At some point the crop will finally move in, and when it does, its weight will be felt.

Once stocks start accumulating around the turn of the year, it won't pay to hold on to cotton without carry in the market and this could lead to a rather competitive environment for January onwards shipments. Even though another shortage may develop later in the season, not many traders will be willing to sit on their bales unless the futures market pays them to do so.

So where do we go from here? We expect December to trade in a range of 75-79 cents in the foreseeable future. There is not enough pressure to knock prices down at the moment, but at the same time we don't see any reason to post new highs either. The Dec/March spread will probably remain the focus of attention as traders try to figure out the availability situation.

Once the crop moves in we expect the trading range to expand to the downside. Unless there is a problem with the crop, we expect March and May to experience some crop pressure. However, Chinese buying (including the Reserve) as well as 7.5 million bales in unfixed on-call sales should provide decent support and keep any selloff attempts contained.

Plexus Cotton Limited

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