PLEXUS Market Comments
Market Comments – July 16, 2020
NY futures retreated this week, as December dropped 135 points to close at 62.54 cents.
The WASDE report of last Friday showed a big drop in the US crop from 19.5 million to 17.5 million bales, due to lower planted acreage and drought conditions in West Texas. While we agree with the lower US crop estimate, we feel that the USDA remains too optimistic when it comes to global mill use, which was lowered by just 0.1 million to 114.3 million bales for the next marketing year.
The USDA sees global mill use jump by nearly 12 million bales from the recessionary 102.36 million bales in the current season. In other words, mill use is expected to revert to an annualized pace of 114.3 million bales on August 1, which simply doesn’t reflect what we hear from our mill friends around the globe.
The just released US retail sales numbers for June continue to show a sizeable drop compared to pre-Covid levels. Although retail sales for “Clothing & clothing accessories stores” jumped 105.1% compared to May, they are still 23.2% lower than in June 2019. For the 2nd quarter they were 57.3% lower than in the 2nd quarter of 2019. With retail traffic slowing down again in July due to the renewed spike in infections, it will be a long road to recovery!
Even allowing for this optimistic view on global mill use, we would still end up with ROW stocks of 67.4 million bales at the end of next season, or about twice the 34.3 million bales we had in 2016/17. This would mark the 5th consecutive season in which ROW inventories have gotten bigger. Rising stocks and struggling demand are not a recipe for higher prices!
US export sales suffered due to the latest spike in NY futures, as net new sales amounted to just 39,400 running bales for all three marketing years combined. Of concern to the bulls is that China was a negative 28,000 RB, after it had been leading the charge for many weeks. The bright spot in the report were shipments, which at 312,500 RB remained on pace to make the revised USDA estimate of 15.2 million bales.
The latest CFTC report (we use the CIT Supplemental numbers) as of July 7 showed that speculators and index funds were sponsoring the market’s advance in early July. Speculators bought 1.35 million bales net to increase their net long to 2.01 million bales, while index funds added 0.47 million bales to boost their net long to 6.69 million bales. The trade was selling into strength, increasing its net short by a sizeable 1.81 million bales to 8.69 million bales in just four sessions.
While there was some new spec buying in recent weeks, the 14-cent rally, which started in early April, was mainly a function of spec short-covering. The first phase of the rally (March 31-April 21) was driven by new spec buying, but after April 21 (when Dec was still at 55.16), it was entirely spec short-covering that fuelled the rally from 55 to nearly 65 cents. Between April 22 and July 7 large speculators covered 2.95 million bales of their shorts and added just 0.01 million bales in new longs.
Large spec shorts were at just 1.79 million bales on July 7, their lowest position since September 2018, which means that the fuel for further short-covering is starting to run out. In order for the rally to continue we need new spec buying to take over, but large spec longs have not really been interested in the market since we went above 55 cents.
The A-index quotes are slowly starting to catch up to reality. Since last Thursday the current A-index went down 225 points to 67.90 cents, while the Forward A-index, which will take over on August 1, was down 430 points to 69.15 cents. The big drop in the latter was due to the inclusion of an Indian quote at 62.00 cents.
There is quite a range between the five quotes that make up the indexes. For the current A-index prices stretch between 60.50 (Indian) and 72.00 cents (MOT), while the Forward ‘A’ is spread from 62.00 (Indian) to 72.00 (Greek and WAF). The problem is that some origins are still insisting on traditional basis levels, which doesn’t yield them any sales, rather than moving to where the market is. We believe it is just a matter of time until sellers are forced to face reality.
So where do we go from here?
The market has been drifting lower in low volume and is approaching trendline support at around 61 cents and below that the 50-day moving average at just under 60 cents. Fundamentals argue for a break below support, but potential sellers have so far been fearful of China buying, weather issues and the Fed.
If physical prices were to finally cave in, it would lead to a lower trending AWP and this in turn would act as a drag on the futures market over time. This could create a negative feedback loop and pull prices lower, and in doing so, it would also turn the technical picture negative.
While we are cautiously bearish, we are also keenly aware of monetary developments. Over the last six months M2 ‘money supply’ has grown by an unprecedented $5.2 trillion in the US and China combined. This has goosed up speculation in asset markets of both countries and while cotton has so far not been a target of speculators, other than short-covering, this could of course change.