Big Picture. Why cotton is withering

What’s wrong with cotton prices — that’s the top-of-mind question in the cotton market today. The current year’s cotton crop is very small, exports from India are robust and the carry-forward stock is expected to be very tight. Then why are domestic cotton prices not rallying?

While there are global influences that have seen prices soften in the last one month or so, the other reason is that the assumptions made by the domestic trade are incorrect.

First, let’s talk about the numbers. The Cotton Advisory Board (CAB) assumes that the Indian cotton season opened with a carry-forward stock of 52 lakh bales (each bale is 170 kg) in October 2015. It is known that the government bought a record 88 lakh bales of cotton last season under its support mechanism. Carry-forward stock at the beginning of July 2015 was around 151 lakh bales, including 70 lakh bales with the Cotton Corporation of India (CCI). Close to 47 lakh bales were sold by CCI during July to September. In the last three months, India consumed close to 76 lakh bales, exported around nine lakh bales and imported five lakh bales, based on official numbers from government agencies.

If you crunch the above numbers to get at the stock, it is difficult to see how the CAB derives its 52 lakh bales figure.

The only possible explanation is that CAB assumes that cotton once sold by the CCI is consumed.

But the fact is that the cotton thus sold merely changed hands, and remains in CCI warehouses long after the new season began. Based on the numbers, Edelweiss Agri Research (EAR) estimates that India opened the new season with a record opening stock of around 77 lakh bales.

It was this extreme supply heaviness that has resulted in cotton prices dipping below the Minimum Support Prices in many regions. The CCI ended up buying a little over eight lakh bales in the 2015-16 season.

For the current season, the crop numbers are estimated anywhere between 310 and 340 lakh bales. Edelweiss estimates that the current crop would be at 335 lakh bales.

Indian prices could see a disconnect from global prices in response to the relatively tight balance sheet this season. But the upside will be limited due to very negative global cues.

China has once again emerged as a game changer for cotton as it has for other commodities. Cotton prices in China have fallen sharply and Zhengzhou Cotton Futures (ZCE) first month contract is trading very close to its all-time low made in November 2008 at 10,180. Indications are that China, the largest importer of cotton till 2014-15, could potentially re-emerge as an exporter.

The last time China emerged as a major exporter was in the season 1999-2000 when it exported close to 24 lakh bales. And in October 2001, ICE cotton futures touched an all-time low of 28.20 cents a pound!

The macro-economic scenario remains as messy today as it was back then. But there are stark differences as well. According to IMF data, China, back then a $1-trillion economy, was seventh-largest in the world. Today, it is an $11-trillion economy and exponential growth looks unlikely from hereon. So, China is in a Catch-22 situation. China is now bound by mandatory imports of close to 53 lakh bales of cotton under the WTO. And the stocks with China are much higher than before.

In this backdrop, the global cotton crop could rebound in the next season as the weather turns normal world-over and the alternate crops look even less attractive. Clearly, cotton price woes are far from over.

The writer is Head-Research, Edelweiss Agri Value Chain