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China dilemma to put floor on cotton prices

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Commerzbank, which has forecast some recovery in grain and soybean prices, said it was upbeat over cotton too, foreseeing futures recovering later this year to levels well above the levels markets are factoring in.

The bank cuts its forecasts for cotton futures to well below the levels above 80 cents a pound it had expected for the rest of 2014, after a market decline which took New York's December lot to a contract low of 67.10 cents a pound last week.

Cotton prices have been undermined by improved expectations for the US harvest, after rains refreshed the drought-hit southern Plains, besides by ideas of a steep fall in purchases by China, the top importing country, following a revision to its farm support regime which has left it with huge inventories of the fibre.

Nonetheless, Commerzbank's forecasts of prices, on a front contract basis, averaging 72 cents a pound in the current quarter, and 75 cents a pound in the last three months of the year, remain well above the futures curve.

WTO factor

The bank cited in part a likely boost to demand from lower prices, with cotton consumption particularly sensitive to its relative cost compared with alternative fibres such as polyester.

"With demand likely to react to the price slump, we expect quotations to recover slightly," Commerzbank said.

However, the bank also flagged potential support from dynamics in China, which appears bound by its commitments on joining the World Trade Organization from acting to depress crops too far by, for example, auctioning off heavy volumes from its state stockpiles.

"When a great amount of cotton from government warehouses is offered via auctions, the price falls steeply in the country," rendering "very high" the costs of its reserves policy, given that China bought its cotton from growers at above-market rates, and with storage costs on top.

With weak prices meaning "very low proceeds" from state auction, "the costs of this policy could then reach the limits of the maximum permitted market support to which China committed itself when it joined the WTO".

Price floor?

Furthermore, by reducing China's import needs, and likely causing a large drop in global prices, the country would hand an advantage to competitors in cotton spinning, "whose competitiveness compared to China would improve," the bank said.

"China's share of global cotton consumption already dropped steeply in recent years."

In fact, it was more likely that China will put a limit on the level that world cotton prices will fall, in terms of the incentive offered to its mills to import if values get too low.

As soon as world prices fall below the level at which it makes sense for Chinese mills to import, despite a 40% tariff on out-of-quota purchases and VAT, their purchases should "lift prices on the global market to higher levels.

"According to our calculations and given conditions within China, this effect should prevent the international cotton price from undershooting the mark of 75 cents per pound over the longer-term."

The outlook contrasts with more downbeat comments from cotton marketing specialist John Robinson earlier this week.


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