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Cotton market wakes up from 5 week losing streak

01
Dec '08

Cotton futures began the week with a limit up session which was repeated again on Wednesday as the market prepared for the Thanksgiving break. Fridays saw the fourth consecutive higher close in the last five sessions.

The cotton market snapped a 5 week losing streak Friday; closing at the best level since November 5th. The active March gained a whopping 611 points last week closing at 4791 or nearly 1,200 over the AWP However, March was still down 62 points for the month. December 2009 finished the week 535 higher at 5148 Exactly why cotton performed so well this last week is certainly not clear. It seemed that the buying might be short covering since there was not a hint of positive economic news even remotely related to cotton.

Spec short covering was initially suspected however, that proved to not be the case. Open interest actually went up on Wednesdays limit up move. Additionally, cotton lost about 45,000 contracts of open interest last month. Certainly, one might very well attribute some of the strength to the "statement" that Cargill seems to be making in taking every available delivery against the December contract. Cargill has just about stopped them all; a total so far of 6,760 contracts or approximately 676,000 bales. Then one had to assume they already own at least some of the cert stock since they stopped over 210,000 bales in October.

A case can be made that they now possibly own three-quarters of the certificated stock. With most of the new crop going into the loan, the cert stock could be the cheapest cotton around. Additionally, the inversion of the March contract over the May contract speaks to the near term tightness of quality cotton.

Certainly strength in the stock market has also helps return some consumer confidence to the market. Until Friday, Stocks had not closed higher 5 consecutive days since July 2007. Considering the boards premium to the AWP, it is surprising that hedge selling did not seem to slow the technical strength any more than it did. Then adding to the mystic of cotton rally is the fact that the dollar index has been extremely strong in reaction to the terrorist attacks in Mumbai.

One thing is for certain; cotton has had very, very good technical action the last week. The short term moving averages have actually turned up. We have broken downtrend lines and are now moving above the really key intermediate indicators such as the 20 and 21 day moving averages. In fact, We have rallied 860 points from the lows just six sessions back.

That is impressive any way you look at it. The last two weekly letters have commented on the likelihood of a five to 10 cent corrective, bear market rally following a close above 4445. That is what I believe we are seeing. Upside targets from a purely technical basis run from 4900 to 5300. However, do not be surprised to see tough overhead resistance 1,200 to 1,500 over the AWP.

Certainly "a bottom" has occurred and technically a very strong reversal which should now attract buying on dips. However, probably not "the bottom" which will take a clear improvement in demand. With the current environment, demand must be considered fragile. A sharp increase in world prices resulting a corresponding rise in the Cotlook Index could shut off or sharply curtail the demand that we see now but also release a glut of cotton from the loan. Fundamentally, one would need to believe that the stock market and global economics had bottomed.

For awhile, it looked like the cotton market was a bottomless pit. Now, there is a chance that the base building and rebuilding process has begun both here and in China.

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