Hot Threads
Fundamentals
Cotton futures were lower Monday, ahead of today's USDA supply and demand report. The sluggish price action the market has seen was not at all surprising, given the strength that the market has seen for the better part of a month. Also, the rise in prices has caused many farmers to begin selling their inventories, causing some traders to worry about a short-term supply glut. There is also uncertainty on the ending stocks figure, which could put some downward pressure on prices if it comes in higher than expected. Despite the choppy price action and investor concerns over the USDA data, Cotton market fundamentals remain strong. Better than expected retail sales data indicates that shoppers may not be as shy with their pocketbooks in the future as they have in the past when it comes to clothing. The real test in this regard will come when clothing stores return to regular pricing, as some of the retail sales data may still be skewed by closeouts and sales of winter items with the coming change of season. The employment outlook continues to show signs of life, with the Non-Farm Payrolls number coming in at what can be seen as "normal" levels. The strong export sales figures have also been encouraging, indicating that demand has remained strong in the face of rising prices. The recent pullback in prices can be attributed to profit-taking by long-only and index funds who have provided support for the Cotton market. If other soft commodities continue to falter, the Cotton market could benefit from fund and speculative buying.
Trading Ideas
Cotton fundamentals and technicals both favor the bull camp at this point, and there would likely have to be a major revision in the USDA data for the market fundamentals to shift. Some traders may choose to enter the long side of the market on a breakout from the tight consolidation pattern on the daily chart, but an option play may be the more conservative route. Some traders may wish to buy the May Cotton 82 call (CTK082C) and sell the May 86 call (CTK086C) for a debit of 1.50, or $750. The trade risks the initial investment for a potential profit of $1,250.
Technicals
Turning to the chart, May Cotton appears to be forming a bullish flag. If confirmed, the pattern indicates that the May contract has plenty of upside potential. If the pattern does not pan out, however, there is a possibility that prices could pull back and possibly test support near the 75.00 level, which can be viewed as a significant support level. Despite the downward move in prices and the RSI, momentum continues moving higher, which can be seen as bullish divergence and a sign that prices may continue their uptrend in the near future.
Rob Kurzatkowski, Senior Commodity Analyst
