Cotton Prices: Likely To Get Support From Here

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By Brendan Conway

It was a tough week for cotton, but there are reasons to suspect the commodity is near a bottom now that it’s fallen to a 22-month low this morning.

First the week’s bad news for prices. The U.S. Department of Agriculturecapped a bearish run in cotton Thursday by forecasting a 9% production increase this season in the U.S., the world’s top cotton exporter. The agency also said global supplies are set to hit another record. Demand in China has been pretty weak of late, which is one reason the bears have been on top. Cotton for July delivery is falling another 2.5% to just under 80 cents  a pound as of midsession after sliding yesterday.

Now the price-bullish news: Export demand could pick up at prices below 80 cents, in the judgment of Morgan Stanley’s commodities researchers, who put on a bearish cotton trade back in March. In addition, don’t count on weather in the South being as cooperative as market prices currently suggest. The analysts led by Hussein Allidina recommended this morning that traders close out the short position:

One leg of our argument for lower prices has been that global consumers (particularly in Asia) were likely to cancel prior purchases of US cotton as the end of the Chinese reserve purchase program pressured domestic prices. Lower US prices reduce the likelihood that these cancellations will be realized, posing upside risk of up to 700K bales to our current export forecast of 11.25 mln bales. If achieved, this would leave US 11/12 S/U below 20%, and likely support near-dated cotton prices.

Supply-side may also pose bullish risks. 
Cotton prices have been pressured in recent weeks by better precipitation in the Southern US, which has raised yield estimates and lowered abandonment forecasts in drought-stricken Texas. While the trend appears to be in favor of more precipitation, much of the Texas dryland cotton area remains under drought conditions, and we note that a decline in precipitation could reverse the market’s optimism on US production prospects.

There are, in fact, a handful of ways to invest in cotton in the ETF market, although none are particularly well-traversed. The iPath Dow Jones UBS Cotton Subindex Total Return ETN(BAL), down about 23% in 2012, has just $33 million in assets. The ETN’s prospectus and more are found here.

Source: http://blogs.barrons.com/focusonfunds/2012/05/11/cotton-prices-likely-to-get-support-from-here/

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