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Keep an eye on December 2008 cotton futures

December 2008 cotton futures will have the job of buying back U.S. cotton acreage lost to corn come next spring, so cotton producers can look for some price appreciation around that time, according to Memphis cotton merchant Joe Nicosia, speaking at the Cotton Roundtable at the New York Board of Trade in New York City.

How high prices will go, however, or even if they move up at all, is tough to forecast. But one thing is pretty much a given — ethanol demand and corn prices will drive any move.

“We're in the middle of a cultural revolution,” said the president and CEO of Allenberg Cotton Co., Memphis. “High energy prices have caused a diversion of agricultural products to be used for fuel, and last year as corn prices exploded, acreage switched to corn, setting off a chain reaction in crops of all commodities. Although the rest of the world has been slow to react to these changes, the United States has been swift and definitive in its response.”

Corn acreage climbed 14.6 million acres in one year in the United States, thus alleviating the perception of a potential corn shortage. “Corn demand for ethanol is expected to rise to 3.4 billion bushels in 2007-08 and ethanol biofuel will still only account for less than 5 percent of the motor fuel used in the United States. So there is plenty of room to strain the agricultural system and the need to expand acres.”

The strain so far has been costly for cotton — to the tune of 4.2 million acres lost from last year. “In the Southeast, we lost a million acres, with 800,000 acres going to corn; in the Delta, we lost 1.5 million acres, with 800,000 acres going to soybeans and 700,000 acres to corn. In Texas, Oklahoma, we lost 1.5 million acres, 400,000 acres to corn and 900,000 acres to sorghum. In the Far West, cotton acreage is down 127,000 acres while corn acreage is up 150,000 acres.”

The 28 percent decline in cotton acreage from last year is the greatest one-year change since the 30 percent decline under the PIK (payment in kind) program in 1983, a time when cotton prices were roughly 55 cents, corn prices were $3.80 to $4 and beans ranged from $7.60 to $9.30.

“But the real excitement could come early next year, when we determine how much of the 4.2 million acres we need to bring back into production for 2008. In response to that, December 2008 futures have already climbed 12 cents in the last two months. There will come a point in time in the very near future when the back end of the futures market, December 2008, is going to dictate where prices go. It will be the job of December 2008 to regulate the level of our carryouts going forward, especially for 2008-09.”

Meanwhile, the response in the rest of the world to high grain prices has been surprisingly little, Nicosia says. Worldwide, cotton area is forecast to be down a little over 3 million acres, which means foreign acreage outside the United States is actually up.

World production is expected to reach roughly 120 million bales in 2007-08, compared to 121 million bales in 2006. Nicosia expects consumption to grow to 126 million bales this year and to 130 million bales by 2008-09, “and we must bring cotton acreage back around the world for next spring. The question is the price level we need for December 2008 futures to rise to in order to accomplish this.”

If current projections hold true, Nicosia said, the United States will need to plant roughly 2 million additional acres of cotton in 2008 to meet export and domestic needs.

The problem is that pegging cotton supplies in China is like counting sheep in a snowstorm. From 2004 to 2007, USDA has added 11.4 million bales into the balance sheet as unaccounted cotton in China, “which are massive changes to the cotton balance sheet.”

Nicosia also pointed out that import opportunities for the United States “begin to fade with the prospect of Chinese new crop coming off around the end of September, so we have a very difficult task at hand. On top of that, China recently announced that it will begin the auction of 300,000 tons of its own reserve cotton to provide additional supplies to its textile mills.

“The risk that we have is the U.S. export number being wrong. A year ago, USDA put our exports at 16.6 million bales, our carryout at 4.9 million bales. Now that the season is over, we find that our exports are less than 13 million bales and our carryout is 9.7 million to 9.8 million bales.

“Clearly, if we do not get our export number right, we can misjudge the entire season. Half the export number can depend upon China, the other half depends on the balance of supply and demand in the rest of the world. And all our exports depend on our farm program, and whether we can compete effectively.”

Another big surprise for the U.S. export market has been the rising importance of India, according to Nicosia. “India has now become a very significant and effective competitor in many important export markets. The Indian textile industry has grown rapidly, however, and the key question is going to be whether or not the Indian yield advances will continue to outstrip their increases in consumption.

“The big risk is that the Indian consumption will be huge and eat into the U.S. export number once again in the year ahead.”

We would not be surprised to see the Indian number be substantially above 30 million Indian bales, easily surpassing the United States as the second largest world producer.”

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