Cotton futures took a dip on Thursday, March 18, after a largely stable week following
months of more volatile than usual trading.
May 2021 cotton futures finished at $0.8545, down 1.17% on the day and 3.16% on the week.
July 2021 cotton futures finished at $0.8642, down 1.15% on the day and 4.84% on the week.
December 2021 cotton futures finished at $0.8259, down 1.24% on the day and 2.49% on the week.
This stabilization and consolidation of prices we are seeing in the cotton markets this week has been expected for a while, as cotton prices have been trading very high for the past few months. Additionally, beyond just the fact that futures have largely been overpriced for months now, many other factors negatively affected cotton futures prices this week.
This weekly report may start sounding like a broken clock, but the message is clear, investors in every corner of the market are spooked by inflation, and the commodities market is no different. The 10-year Treasury yield reached above 1.7% for the first time since January of 2020 on Thursday, signaling that even with additional reassurance from the Fed this week, investors still believe inflation is becoming a larger and larger threat to the U.S. economy and markets. After the two-day Fed meeting on monetary policy this week, Fed chair Jerome Powell once again said that although inflation may rise in the short term, he does not see it being a significant threat to the economy and therefore the Fed will keep rates at
rock bottom until at least 2023.
The Fed also revised its forecasts for GDP growth for the U.S. economy in 2021, up to 6.5% from 4.2%, the forecast made in December of 2020. This jump of over 2% was a big factor in inflation fears and the 10-year treasury yield rising, as investors fear the economy might recover too quickly and overheat. This would cause inflation and force the Fed to raise rates even though the economy will have not fully recovered. At this point, it seems like
everyone but the Fed is worried about inflation in the near-term future.
Additionally, dragging down prices is the concern that overpriced futures are still present. As growing season begins across the U.S., farmers may plant more cotton than expected and drastically increase the supply for 2021 which will cause prices to go down.
In a small blip of good news this week, a strong USDA sales export report released this Thursday (for the week ending March 11th) showed that exports remained largely unchanged from the strong report of the week prior at 351,900 bales. With the combined worries of inflation and the consistently overpriced cotton futures market of the past few months, strong international demand was not enough to stop prices from falling and they will likely continue to in the next coming weeks as they try to find a price at which they can consolidate.
Investors in the cotton market and textile companies should both keep their eye on the 10-year Treasury yield this coming week to give a better idea of whether prices will be stabilizing and consolidating sooner rather than later.
One factor of cotton prices that has not been in the news as much this week is the weather. Weather is an especially important factor as growing season begins across much of the U.S. this month.
How Cotton Prices are Affected by Weather
Cotton, and crop commodities, prices are massively affected by weather each year. In
fact, one reason why cotton futures prices were pushed so high in early 2021 was in part due to lowered cotton output expectation due to dry weather across much of the southern United States. Cotton prices are inversely related to weather in that, when there is good weather for growing cotton, the price tends to drop, whereas when there is bad weather for growing cotton, the price increases. This is simple supply and demand, as poor output due to poor weather will cause the domestic supply to shrink.
The Current State of Weather and Growing Conditions in Cotton Country USA
As cotton is mostly planted in the southern half of the United States, most notably in Texas
and the southeastern United States, we only need to really pay attention to the growing conditions in these areas. A good source for the weather and growing conditions outlook for the United States is the US Drought Monitor.
This report is released by The National Drought Mitigation Center at the University of Nebraska every Thursday. Looking at the US Drought Monitor report released today, we can see that much of Texas and portions of the southeastern United States, such as Alabama and Mississippi, are currently in some form of a drought. The US Drought Monitor classifies drought conditions in five-separate tiers: abnormally dry, moderate drought, severe drought, extreme drought, and exceptional drought. Although all these conditions can affect crop output, obviously the more drastic the drought, the lower the expected output of crops such as cotton.
With much of Texas, especially Western Texas and Southern Texas, in some form of drought moderate or higher, there is reason to believe that cotton output for 2021 may be lower than usual. In fact, these drought conditions are present even after more than an inch of rain fell across Western Texas in the past week, which slightly improved conditions. The Western United States is also still in the midst of a multi-year drought with moderate drought to higher conditions extending from California to the High Plains. This will affect cotton output across California, Arizona, and New Mexico heavily as well.
It is also important to look at rain forecasts from the National Weather Service to get a better idea of where forecasters think precipitation will fall in the coming days, as anything farther out than that has a high degree of unpredictability. Looking at the National
Weather Service’s weekend precipitation forecast for this week, we can see that there is no
precipitation forecasted for any parts of Texas and only some rain forecasted for other parts of the southeastern United States. There is no evidence in the short-term that drought
conditions will markedly improve, but it is important for cotton traders and textile companies to keep an eye on drought conditions throughout cotton country in the coming weeks and months, as they provide key insight into factors that directly affect the price of cotton futures.
Where are Cotton Prices Headed?
In total, it appears that cotton prices have finally reached a ceiling after months of
bullish trading and are finally starting to come down and stabilize. It is now up to the Fed to
calm inflation fears and for international exports to remain strong to prevent cotton futures
from falling too much in the short term.
Once again, we recommend keeping an eye out for the March 31st planting intentions report as this will give key insight into the supply of U.S. cotton planted in 2021. Additionally, this week may have been an anomaly in terms of non-volatility for the cotton futures markets, as inflation fears can cause prices to be extremely volatile. Also, watch out for increasing volatility in the cotton markets and commodities markets in the coming weeks, as the Chicago Board of Trade allowed an expansion of speculative position limits for agricultural futures this week; heavier speculation is never good for market volatility and because of this, the commodities market might be getting a little wilder soon.
Our projections for cotton futures prices were made using exponential smoothing with an alpha value of 0.5 to reflect the fast-paced changes in the market that can happen at a moment’s notice. A higher alpha value allows us to put more weight on more recent data points, therefore causing them to affect our projections more than data points from long ago.
