There's a reasonable expectation that December cotton futures likely will stay in the 50-cent range unless the supply/demand balances change due to unexpected developments, says John R.C. Robinson, Texas A&M Extension economist.
Robinson gave his assessment of the cotton market during the 2005 Southern Region Agricultural Outlook Conference held in Atlanta.
“Earlier in the year, for the 2005-06 crop, we were looking at a small reduction in world and foreign stocks-to-use ratios,” says Robinson. “Recent crop reports have resulted in a slightly larger projected increase in U.S. carryover stocks and stocks-to-use ratios. The change in stocks-to-use from year to year generally moves in the opposite direction of prices, so the current estimates are definitely not supportive of higher prices this fall.”
Projections of foreign and world supply and demand were highlighted by increased production estimates to the point to where projected production is very close to projected consumption, he adds.
“The bottom line is a small reduction in world and foreign stocks-to-use ratios, but not below the 40-percent stocks-to-use threshold that historically results in higher world prices. Once you're above that threshold, the A Index doesn't change much. The upshot is a reasonable expectation that December 2005 futures will languish in the low 50s unless the supply/demand balance changes due to unexpected developments. For the remainder of the marketing year, I wouldn't expect December futures to move too far from current levels,” he says.
Since the last farm bill in 2002, says Robinson, U.S. cotton acreage hasn't been that big of a question or a variable. “You can make a pretty good case that it will come in this year under 14 million acres next year. Until they whittle away at farm program benefits, or make acres ineligible for the marketing loan program, or do something else really drastic, we'll continue to see this acreage pattern.
“The future of our production depends on yield, and the uncertainties of weather. Since the last farm policy, a lot of marginal land is out, and the people who are growing cotton are doing a pretty good job. Abandonment is very variable. The average is 8 to 9 percent, and it may change depending on conditions in drier parts of the country,” he says.
It's becoming difficult, he says, to predict yield based on long-term averages. “What do we use to predict expected yield in the United States? We've made a structural change due to new technologies, new varieties, and boll weevil eradication. Yields continue to increase, with recent ones being more than the seven-year average. USDA used a three-average in its May acreage report, but we're already above that number.”
Domestic mill use in the United States continues to go down, notes Robinson. Over a relatively short period of time, the United States has gone from using two-thirds of its cotton and exporting one-third to using one-third and exporting two-thirds.
“The only thing that has saved us is that we're exporting that surplus to the world. Cotton is an export market and subject to the vagaries of unknown supply and demand information from the other side of the world,” he says.
The world, says Robinson, is expected to produce about as much as it'll use worldwide. The level of exports will keep the United States afloat, and that situation should work itself out as we get into the new year, he says.
Turning to world production for the past two years, China is No. 1 with the United States still being a big player, says the economist. India and Pakistan are close behind U.S. production.
“The story in the world is fantastically increasing consumption. Last year, we thought we would be increasing stocks, but the crop got bigger, and there were reports of sales to China. Estimates of world consumption continued to get bigger. So, even though the world and the United States had record crops, we also had record consumption.
People still think there's growing demand. But a 40-percent stocks-to-use ratio is sort of a marginal threshold in trying to get prices to change direction. We're not there, not even for the 2005-06 crop.”
Looking at the relationship between foreign acreage and the A-Index, Robinson says farmers in other countries still plant cotton, even when world prices are below 50 cents. It's their cash crop, and they don't have many alternatives, he adds.
“As for 2006, I don't think world prices will go much higher. We'll probably have pretty much the same acreage as we do now. That means the question of supply and demand for 2006 and 2007 will come down to yield, and it's the only thing we can't predict because it depends on weather. It'll all depend on the weather next year in China, India and the United States.
“China is the driver that determines changes in world supply and demand numbers, and China is subject to the same weather risks that we are. Their yields will reflect the rest of the world.”
For 2005 December contracts, Robinson doesn't expect prices to get out of the mid-50s. “We've been telling folks who haven't priced cotton this year to go ahead and put it into loan, get through the new year, and when we get into February and March, see if you can get a good contract for someone to take it out of loan. Enjoy the free storage over that period. If the pace of exports is decent, hopefully, March futures will be up.”
December 2006 futures have been trading about four to five cents higher than December 2005, he says. And, a reasonable case can be made with the preliminary 2006-07 estimates for a slight decrease in U.S. stocks and stocks-to-use, which in turn could provide a rationale for December 2006 futures trading in the mid-50s versus the low 50s for December 2005.
Turning to emerging issues that might impact the cotton market, Robinson says there's the potential for increased foreign productivity due to Bt cotton and new varieties. “It's amazing what Bt cotton does for a place such as India, and China's average yield already is 1,000 pounds per acre — they have surpassed us in productivity.”
High oil prices also could have an impact. Other materials such as polyester and rayon are more expensive to manufacture, he says, and that should support cotton prices, but there's a trade-off with higher energy costs.
“The elimination of the Step 2 export subsidy also could have an impact. The value of Step 2 is estimated at about 2 cents per pound for someone, such as the merchants or the mills. There's also a lot of discussion about the influence of speculators. Whether the net position of the speculative community at the New York Board of Trade is positive or negative can affect prices.”