Fundamental analysis involves comparing major supply and demand variables like production, consumption, and ending stocks. This is usually based on organized tables, the prime example of which are published by USDA, and reproduced below:
The November WASDE report saw relatively modest adjustments to the foreign and world cotton balance sheets for the 20/21 marketing year. On the supply side, world carry-in was raised 380,000 bales, mostly in Brazil. World production was lowered a scant 160,000 bales, month over month, where a big cut in Pakistan mostly offset increases in Australia and China. World imports and exports were each raised a little under 600,000 bales. Domestic consumption was cut 160,000 bales from the October forecast, most of which was seen in Pakistan. The bottom line of all these adjustments was 310,000 bale increase in world ending stocks, month over month, which is fundamentally price neutral in terms of the monthly adjustment. However, the resulting level of 101.44 million bales is still historically high.
Yet again, the U.S. cotton balance sheet saw surprisingly little adjustment month over month. With pre-report expectations of a degrading, diminishing U.S. crop. In fact, USDA raised the average U.S. all cotton yield by two pounds per acre, translating to a minor 40,000 bale increase in 2020 production. There were no changes to U.S. domestic milling or exports. So with the “unaccounted” fudge factor absorbing the minor change in production, the result of no change in the 7.2 million bales of forecasted ending stocks. The resulting stocks-to-use ratio thus remains above the burdensome 40% threshold level, which is fundamentally bearish according to history and economic theory. Besides remaining very bearish in the resulting levels, the unrealized expectations in this month’s lack of production trimming is also likely a market surprise.
Fundamental analysis is fairly straightforward in its application. However, there are a lot of moving parts and uncertainty in balancing supply and demand variables. The price outlook can also be influenced by non-fundamental factors, particularly in the short run.