NY futures sold off this week, with December dropping 318 points to close at 63.49 cents, while December'08 gave back 252 points to close at 72.05 cents.
The much awaited correction finally materialized this week as a bearish short-term market outlook outweighed a potentially bullish long-term view. Even though speculative funds were able to force the market higher in recent weeks in the face of bearish seasonals, there was a limit as to how far they could take it without trade participation.
From the trade's perspective, there are a number of reasons to be negative on the futures market at the moment. Export business has dropped off a cliff at these higher levels; there are several markets complaining about burdensome yarn stocks; most major crops around the globe seem to have escaped any serious weather issues (with the West Texas crop actually looking very promising), and the certificated stock has risen sharply in recent weeks.
Therefore, the cash market has been unable to follow the lead of the NY futures market and sooner or later there had to be a readjustment.
The fact that the certificated stock has grown by nearly 100'000 bales to around 573'000 bales over the last 3 weeks (including bales under review), at a time when unsold stocks in the US are seasonably low, was particularly damaging to the bullish case and showed that the futures market was paying fantasy prices that were not obtainable in the cash market.
The trade has backed its bearish conviction up by establishing a record 17.15 mio bales net short position in futures and options, according to the latest CFTC report. This is up by another 1.1 mio bales from the week before and after a frustrating period this huge short position has finally started to pay some margin money.
Surprisingly, open interest has actually risen slightly during this sell-off, going from 232'783 contracts last Thursday to 233'231 contracts as of this morning.
This suggests that there has not been any widespread liquidation of existing positions. Some trade shorts may have been bought back while new spec shorts were established, but we suspect that spec longs remain unimpressed by what they consider to be just a dip or correction in a bull market.
We have read several publications by institutional advisors in this regard, telling clients to use these dips to add to their positions.
So what will happen next? From a technical point of view, this recent setback still has to be considered a correction until proven otherwise and that is how the specs seem to play it. In order for the market to break more substantially, either specs longs have to start liquidating, while spec shorts become more aggressive, or the trade needs to keep adding even more to its already huge net short position.
