The upward momentum has resumed in Cotton futures after a nearly 2-week period of price consolidation, as traders fear less than ideal weather conditions will affect the quality of this year's U.S. harvest. Cold, wet weather has plagued the main Cotton growing regions in the South, hampering the pace of harvest. As of October 25th, only 19% of the U.S. Cotton harvest had been completed, vs. a 43% average for this time of year. The untimely rains have also brought concerns that Cotton quality will suffer as well, as dry weather is really what is needed during the current stage of development. Those doubting that the rally can continue point to less than stellar U.S. Cotton exports, especially to China, which is purported to be experiencing weather issues with its own Cotton crop this season. Seasonal hedge selling has been light so far, mainly due to the slow pace of the harvest, but should pick-up steam -- especially if drier weather comes to the Southeast and Mississippi Delta regions this week. Speculators, both large and small, are holding net-long positions in Cotton, according to the most recent Commitment of Traders report. As of October 27th, non-commercial traders were holding a combined net-long position of 67,603 contracts, up 544 contracts for the week. Unless December Cotton can take-out support at 65.47 on a closing basis, there is little reason for those long Cotton to abandon their positions -- especially if the harvest delays continue and the U.S. Dollar remains weak.
Given the bullish trend in Cotton futures, option traders believing that support at 65.47 will hold may choose to investigate selling out of the money Cotton puts in the soon to expire December contract. An example of this trade would be selling the December 65 puts, which expire on November 13th. With December Cotton trading at 68.00 as of this writing, the Dec 65 puts could be sold for 0.26 points, or $130 per contract, not including commissions. The premium received is the maximum gain on the trade and will be realized if December Cotton is trading above 65.00 at expiration. Given the risk of a naked short put position, traders who choose to employ such a strategy will probably want to closely monitor the trade, and may wish to exit the trade early should December Cotton trade below support at 65.47 before the option expires.
Looking at the daily chart for December Cotton, we notice the market spiked higher in the middle of October, once major resistance at the previous highs of 65.47 were taken-out. Since that time, the market has attempted to test psychological resistance at the 70-cent level to no avail. Yesterday's rally attempt fell short of taking-out the recent highs of 69.49 made on October 15th and spurred fresh selling by hedgers and short-term speculators. Despite the late session selling, prices remain above the 20-day moving average, currently near the 66.35 level, which will now act as near-term support. The 14-day RSI has moved well-off its recent highs, but is still reading a supportive 60.74.
Mike Zarembski, Senior Commodity Analyst