Supply concerns sparked by recent low cotton prices caused a price spike Monday as the July delivery futures contract rose to 75.09 cents/lb. The price is a three-week high for cotton, which has been falling steadily since late April.
Traders are weighing multiple factors, including the impact of falling prices on farmers planting decisions. Traders are concerned that cotton costs will prompt farmers to plant less cotton, potentially causing a supply shortfall in the coming contract. Prices have fallen below their 10-year average of 69.04 cents/lb. The production price of cotton is considered to be around 75 cents/lb.
According to a bulletin from the International Cotton Advisory Committee, cotton production is expected to fall by 7% due to price drops. Despite this, stocks are expected to rise from 9.3 million bales during the 2011 price increase to approximately 14.5 million bales during the 2012/13 growing season. This is due to an anticipated 8% decline in global trade volumes on strengthening of the US dollar, European uncertainty, and China slowing.
Production declines in unsubsidized markets are a logical response to price drops, but many major cotton markets subsidize production or provide floor prices. India, China, and the United States are all major producers who subsidize cotton prices. Some farmers will choose to reject subsidies, instead switching to similarly subsidized corn or soy, but recent bumper crops in Texas will likely encourage other farmers to stay the course.
The drop in prices does introduce instability into the relationship between mills and ginners and cotton producers. Many ginners and mills are requesting arbitration to renegotiate contracts signed up to a year ago. This has pushed some mills to purchase cotton on contracts as two months, which contributes to price volatility by encouraging contract cancellation and speculation.
Jordan Lea, an international cotton seller at Eastern Trading Co, was quoted by Nasdaq as saying, “There is definitely a concern” that the contract cancellation epidemic will re-emerge. “Whenever you have a huge drop in the market, you’re going to have these problems.”