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NY cotton market seems to be ready for a bounce
23
Apr '11
NY futures followed the same pattern as last week, with July dropping 1149 points to close at 167.51 cents, while December was down just 31 points to close at 132.14 cents.

Since the cash market has been declining for several weeks in a row now, it was just a matter of time until the futures market would begin to crack as well. Over the last ten sessions the July contract has fallen by more than 30 cents or about 15 percent, after the breach of important technical support (50-day moving average and long-term uptrend line) prompted widespread liquidation.

While open interest was holding up fairly well until last week, it dropped by a hefty 31'000 contracts over the past five sessions and stood at just 166'731 contracts as of this morning, the lowest it has been since July 28 last year. The market seemed to finally give up on the idea that a short squeeze in the May contract would propel values significantly higher.

However, the short-squeeze still took place, but it played out via a record inversion in the May/July spread instead of a directional move. Open interest in the May contract was still stubbornly high at 15'503 contracts at the beginning of session, which was the last before First Notice Day on April 25th. Shorts continued to scramble out of their positions by rolling into July, pushing the inversion out to over 1900 points by the close.

After the close we learned that only 13 notices (1'300 bales) were issued for Monday, with all of them being stopped by Allenberg. This indicates that Allenberg owns all of the remaining open longs in May and this could spell trouble for whoever remains short at this point. Not only does Allenberg already own part of the existing certified stock, but they apparently have an appetite for more. The fact that there seems to be a strong taker should be supportive for the market when it resumes trading next week.

The market seems to be ready for a bounce, not only because of what is happening with notices, but because we feel that the selling has run its course for now. July, which is now the lead contract, had to endure a lot of pressure over the last couple of weeks. Not only was there selling from shorts spreading out of May into July, but there was also options related selling as owners of cash cotton were seeking protection via bearish strategies and then there was plenty of long liquidation based on technical weakness.

According to the latest CFTC report of April 12, which is already a bit dated, index funds owned 56% of the net long in futures and options, with all remaining speculators owning 44%. The trade was on the other side holding the net short position. Since index funds will have to sit tight until the next rolling period at the end of May and speculators just reduced their net long position considerably after sell stops were triggered, we don't expect a lot more selling at this point. On the other hand the trade may start covering shorts more aggressively now that the market has given them a 30 cents break in a matter of just two weeks. After all, there were still about 2.9 million bales of fixations open in July as of last Friday.

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