Is cotton hanging by a thread? Will soft growth fray the cotton markets nerves? Will a soft market leave cotton with no cushion or is the cotton market unraveling?
Whatever, it is the only major commodity futures market to have registered a significant increase in price during 2015 – up 7% at 64 cents per lb.
1) Declining cotton production
The US Department of Agriculture, in its first forecasts for 2015-16 forecast world cotton output falling 5.4% to 133 million bales, sapped by lower, or flat, harvests in all major producing countries. US output will fall particularly far, by 2.1 million bales to 14.1 million bales, a reflection of lower sowings due mainly to relative prices and net returns that favour alternative crops.
Chinese output will fall 2.0 million bales to 28.0 million bales, the lowest since 2003-04, a reflection of a revised subsidy regime that favours farmers in Xinjiang, the top growing province, over producers in other areas (more on that later).
2) Higher economic growth
A shaky economy tends to dent consumer spending on discretionary items such as cotton sheets, shirts, and jeans. However, according to the USDA consumption will grow at an “unusually high rate” of 4.2% in 2015-16, lifted by the knock-on effects of stronger world economic growth. Despite this world inventories are seen ending next season at 106.8 million bales, equivalent to some 11 months’ needs.
3) End to Chinese stockpiling
In China Beijing has pledged to end a costly stockpiling program that has artificially inflated cotton prices and replace it with a subsidy program instead. However, the Xinjiang Production and Construction Corps (XPCC), a quasi military body that employs about 200 thousand in the cotton industry in Xinjiang is resisting calls for change.
XPCC which produces around 30% of China’s cotton has been keeping prices around $80 per tonne higher than other producers. The group may have to slash its price later in the season if the state doesn’t intervene and purchase its leftover stock, putting pressure on benchmark local prices while also weighing on international cotton prices.
Another factor is the quality of the cotton bales held in storage. If the quality of the cotton in the reserve is poor, then Chinese import demand will persist, or perhaps even improve, because quality foreign cotton will be needed to blend with inferior Chinese cotton. There are no statistics on quality however although some estimate that about half of the Chinese reserve is likely to be of inferior quality.
4) Falling oil prices
Cotton has the largest per-acre energy costs of all agricultural commodities and so so changes in the price of oil can also directly affect the price of cotton. According to a recent report from Societe Generale the historical correlation between cotton and crude is the highest across all commodities at 0.45:1.
Cotton competes with polyester in the worlds fibre and apparel markets. The post-2009 jump in cotton prices led China to vastly expand its capacity for purified terephthalic acid (PTA), the oil-based raw material for polyester. PTA prices in China have declined sharply since mid-2014 improving the price competitiveness of polyester vs cotton, a further drag on cotton prices.
5) Seasonal factors
Finally, cotton prices tend to peak around Feb/Mar before bottoming out in August.