The week ending Thursday, May 16, 2019 saw ICE cotton futures decline limit down on Monday as a follow through to the selling from the previous week. Tuesday brought a bottoming and a small bounce in what was a ten and eight cent decline from May 3 levels for Jul’19 and Dec’19 futures, respectively. Wednesday and Thursday saw a narrow sideways consolidation pattern in the 66 cent range. Fundamental news this week included decent old crop export sales numbers. Meanwhile, new crop fundamentals remained focused on the short terms costs (i.e., mixed planting pace) and long term effects of ample moisture across the Cotton Belt. However, this week saw the beginning of widespread good planting weather, which induced a lot of planting by all accounts.
On Thursday, Jul’19 and Dec’19 ICE cotton futures settled respectively at 66.80 and 67.09 cents per pound. The distant Dec’20 settled at 67.52 cents per pound.
A sample of put option premiums on ICE cotton futures saw continued strength from the stabilization of the underlying futures at a new lower level, in addition to higher futures volatility. For example, an in-the-money 75 put on Dec’19 cotton settled up 2.86 cents at 9.39 cents per pound, week over week. An out-of-the-money 68 put traded for 4.20 cents per pound on Thursday, up from 2.45 cents per pound the previous week. This price behavior in the short run illustrates how put options act as downside price insurance.
This week provides a ongoing example of unexpected market volatility. It can happen in both directions. For example, a resolution to U.S.-China trade relations, or confirmation of lower U.S. planted acreage, something else totally unexpected, coupled with notions of an oversold market, could trigger speculative buying. If that happens, I would view such a rally as a selling/hedging opportunity since 1) spec driven rallies tend to be short lived, 2) I would expect a world of contracting and hedging in the upper 70s, and 3) nobody ultimately knows the direction of prices. The most relevant question is always whether a cash contract or a hedge on today’s futures price will be a profitable, or at least survivable, price floor.
Given all these uncertainties, growers should always be poised and ready to take advantage of rallies, and protect themselves from sudden sell-offs. Forward contracting of new crop bales, immediate post-harvest contracting of old crop bales, and/or various options strategies can be used to limit downside risk while retaining upside potential. New crop put strategies to hedge the 2019 crop are now mostly a rear-view-mirror thought. But if something causes a sharp rally back to the mid or upper 70s, put-based strategies would again be a straightforward and relevant approach. There are a some forward contract offerings with a competitive basis, but with capped (at 31-3-36 quality) premiums and expanded discounts. I heard more from growers about these contracting opportunities back when Dec’19 traded above 77 cents.
For further analysis and discussion of near term price behavior, click on the menu above entitled “Near Term Influences”. Longer term price behavior is more influenced by fundamental supply and demand forces, which is discussed above under the “Market Fundamentals and Outlook” menu tab.