Doane Cotton Close: Additional Defensive Sales Good Management

Cotton has been a tale of two markets for months. The old crop situation, while abundant globally, is pretty tight in the U.S., especially when you consider the short supply of high-grade cotton. Strong export demand has many thinking ending stocks could end up even tighter. And you have the reality that over half of the global ending stocks are held in “reserve” by China, with no clear signal yet how aggressively they will put this cotton out to the market now that they’re changing to a target price & deficiency payment system for their domestic producers for 2014.

And the new crop outlook would seem to be quite bearish in light of China’s changing policy. What if they decide to continue limiting imports and attempt to work down their mountains of reserve cotton domestically? Already it’s pretty much assumed cotton acreage will drop 10% in China, but it could drop even more if the new target prices turn out to be at or near current global prices instead of the 50% premium they’ve been paying farmers.

We also know via the National Cotton Council that U.S. producers plan an 8% increase in acreage from last year. It’s our view that in the absence of China’s “hold” on more than half the world surplus, cotton prices would likely be 15-20 cents below today’s prices. The rally in new crop has been almost solely from the “coattail effect” of rallying old crop. So when even old crop futures broke their long-term uptrend line today, some additional defensive sales seemed good risk management.