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The Rupp Report: Rollercoaster Cotton

Jürg Rupp, Executive Editor

Over the last few months, the Rupp Report has informed its readers frequently about the soaring cotton prices and its rollercoaster market. These skyrocketing quotations have provoked a lot of problems in all textile markets. Mainly, the lack of raw material and some political decisions from big market players are jeopardizing the global cotton markets.

Strong Competition In Asia
What's going on with cotton? The Chinese companies are frightened by the Indian competition for textiles and especially apparel. Some sources are already saying that the profit margin is less than 20 percent - including 15-percent export tax rebate. An official survey conducted by the Chinese government mentioned that many small to medium enterprises are suffering from rising material and labor costs. They are facing serious challenges: Half of them are experiencing a decline of profits; and others have already closed their doors. Experts say that the cost of Chinese exports has gone up by 10 to 20 percent. However, one big help is still the export tax rebate provided by the Chinese government.

Another kind of "relief" for more raw cotton may come from Uzbekistan: Asian newspapers have mentioned statements from Uzbek officials that they are "tired of being lectured to by the European Union." Uzbekistan and China are planning to cooperate in a more intense way. Uzbekistan is interested in using China's advanced technology to update its ageing energy infrastructure, and China, with its ongoing hunger for raw materials, wants to buy uranium, non-ferrous metals, gas and cotton from Uzbekistan.

In China, cotton yarn prices have increased by 25 percent from October 2010, bringing problems to China's cotton and textile industry. On top of that, an average worker's salary increased from 2,000 yuan last year up to 3,000 yuan this year. A very well-known problem is, of course, the appreciation of the yuan. But now, an astonishing change has happened in the market:

Ups And Downs
In its May 5, 2011, Market Report, Plexus Cotton Ltd. reports: "NY futures remained under pressure this week, as July fell another 516 points to close at 146.86 cents, while December dropped 450 points to close at 122.08 cents. The market is still searching for that elusive bottom, as buyers are as hard to find as they were four weeks ago, when the July contract was trading around 50 cents higher."

It seems that some U.S. cotton buyers are not certain what's going on in the markets. Plexus further reports: "US export sales for the current marketing year continued to recede last week, as cancellations of 49,300 running bales outstripped new sales of 44,200 running bales. Total commitments now amount to roughly 15.9 million statistical bales, of which around 11.7 million bales have so far been shipped. Unless net sales numbers turn positive again over the next couple of months, it is unlikely that the current USDA export estimate will be met. Commitments would probably have to amount to at least 16.5 to 17.0 million bales in order to get 15.75 million bales in exports by the end of July. On the bright side, sales for the 2011/12-season continued to grow by 74,600 running bales, bringing total commitments for next season to already 5.7 million statistical bales."

What's Next?
The markets went upside down not only when crude oil dropped by more than $10.00 a few days ago. As Plexus notes, this is the "biggest daily drop since the 2008 financial crisis. Just about all commodities were hit hard as speculators and investors cashed in some of their long holdings in the wake of weak economic data."

Plexus further comments: "Contrary to what some investors may believe, inflation is always a monetary phenomenon. It would be a mistake to conclude that a weak economy cancels out the threat of inflation arising from a highly expansionary monetary policy. ... [It seems that the markets] have entered another phase of de-leveraging, experts predict that if money is moved away from 'risky' assets, such as commodities, into 'safer' instruments, such as cash or bonds. The good thing in regards to cotton is that spec involvement is currently fairly small compared to what it was back in 2008 or compared to other commodities such as crude oil, corn and precious metals. In other words, speculators don't really have that much to move out of the cotton market."

CFTC Report
Referring to the latest Commodity Futures Trading Commission (CFTC) report on cotton trading, Plexus notes: "The ... report says that large specs owned just 3.1 million bales in outright longs and 1.0 million bales in outright shorts, although they still had a relatively large spread position on at 9.4 million bales. The trade is currently the most dominant force in the market with 8.2 million longs and 16.1 million shorts. Index funds, which are a much more passive investment group, owned 6.3 million in outright longs and 1.3 million in outright shorts, while the fourth group, small speculators, owned 2.0 million longs versus 1.4 million shorts."

What's Now?
Plexus continues: "A weak cash market and negative vibes from outside markets are exerting pressure on NY futures at the moment. In order for the market to stabilize we need to see mills step forward in greater numbers. There are still 2.4 million bales to fix in July, which should provide some support, but what's really needed is a decent round of mill buying. Until that happens, the spot month will probably continue to drift lower.

"New crop seems quite attractive at current prices given the planting problems in the US, where some areas are being inundated, while others remain in desperate need for some rain."

So, not only has the climate changed at the NY futures market, but also the climate as it affects cotton growing.

May 10, 2011