Cotton's Rollercoaster Ride To Continue Into 2018/19

June promised to be an electric month for the cotton market, and indeed it was, with some lively battles – speculators versus mills, drought versus rain, and Xi versus Trump. This saw the international cotton price (ICE#2) trade in a USc 12/lb range throughout the month.

The market heating up, coincided with the 2018 cotton pick in Australia winding down. Exceptional, although volatile, market conditions are contributing to a ‘trifecta’ for the cotton sector this season – in terms of quality, quantity, and price. Rabobank estimates production to come in at around 4.5 million bales, which would be the third-largest crop in Australia’s history.

Poor water availability

As 2018/19 water allocation announcements have just been released, prospects for the 2019 crop are currently significantly limited by poor water availability. Water storages across all major cotton growing regions are down year-on-year, and many valleys are facing ‘zero’ general security allocations in this first announcement, therefore relying on carryover water and further inflows in coming months.

Figure 1: Major Storage Dam Levels in Cotton Valleys at June 29

Cotton_Fig1

Source: Australian Bureau of Meteorology, June 29 2018

While it remains early days, with the planting window now stretching between August and December, the lack of certainty surrounding production levels has limited the ability of growers to capitalise on forward physical contracts for 2019. These have also hit levels well over AUD 600/bale in June.

Uncertainty in the market

While Rabobank forecasts some downside to the current prices in the second half of 2018, to levels below USc 80/lb by the end of the year, there is plenty of uncertainty in the market and a few factors to watch. First and foremost, the developing US crop will have a material impact on cotton availability in the world market. Currently, just 42 percent of the crop is rated good to excellent – the worst result in five years due to the dry conditions through planting. US weather in the coming months may provide cause for more volatility in the market.

Secondly, while there have been some speculative factors in the recent price strength, demand for cotton globally has also been helping to underpin prices. The USDA has forecast the most promising consumption growth since the global financial crisis. While this demand strength will certainly be tested by the persistent high prices in the first half of 2018, it has been encouraging that the decline in cotton’s market share of the overall textile market is expected to halt in 2018.

Trade dispute

Finally, the ongoing trade dispute between China and the US has again implicated cotton in a list of 649 items of goods that will attract extra tariffs from July 6. This development, in a season where Chinese import demand is forecast by Rabobank to lift to seven million bales, remains a critical one. So far this season, 15 percent (or 2.5m bales) of US exports have been purchased by China, with a further 1.4m bales purchased for 2018/19. Disruptions to this trade are likely to have implications for both the ICE#2 and Australian basis.

So although there is some downside risk to the historically high prices for Australian cotton seen during the 2018 season, ultimately there is plenty of water yet to go under the bridge, or not as the case may be, for the 2018/19 season.

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  • Georgia Twomey

    Analyst - Commodities
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