The Hightower Report

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Cotton is finally in the process of making its first correction to the sharp rally that started in early February. The correction started with yesterday’s long, slow retreat from the new high established in the May contract earlier in the session. This retreat accelerated overnight with the May contract losing 2 full cents at one point in the overnight session. This marks the biggest setback since the rally began on February 8th. However, losses in the nearby March contract have been much smaller than in the May contract, which maintains the bull spread tightness that has been a feature of the 2010 rally. The 2-day setback is not likely to be the start of a full reversal of the trend, however, merely a correction. It is also a signal that higher prices will at some point bring a scarcity of buyers, even in the export market where sales cooled to more moderate levels on last week’s Export Sales report reflecting the prices of two weeks ago. Traders will be looking closely at the next report on Thursday to see if sales will dip again and fall below the weekly average needed to reach the USDA’s export projection. That total is currently at 111,100 bales. May cotton made yet another new high for the year yesterday, moving to near 18-month highs in the process. The March contract led deferred contracts higher again yesterday, although it did so by a lesser margin that had been the case in some previous sessions, and this was followed by the setback into the overnight session. Weakness in some economic data related to jobs and housing in recent weeks may now get a closer look from cotton traders, with this Friday’s Unemployment number and Thursday’s Initial Jobless Claims possibly getting more attention from traders. Deliveries against the March contract as of March 2nd were 43 contracts, taking the total for the delivery period to-date to 3,355 contracts. Stocks registered for delivery against the ICE No. 2 cotton contract rose again yesterday to 556,846 running bales from the previous total of 552,817 running bales.

TODAY’S GUIDANCE: The May contract rallied nearly 17 cents without a significant correction over the past 4 weeks and price action over the past 24 hours indicates that the bull market in cotton will not be a complete runaway. The setback may take the May contract back into the range of support at 79.00 to 80.00 or perhaps as low as the January high at 77.83. However, this looks to be a buying opportunity in the May and July contracts with the longer term objective remaining near 90.00 cents in the May contract. First support is at 79.70 to 80.10 in the May contract. Light, near term resistance is at 82.45 to 82.50.

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The market continues to see a massive long liquidation sell-off and pushed to the lowest level since November for the October futures overnight. Open Interest peaked at 897,343 on February 4th and was 756,950 contracts yesterday. The market faces continued extreme tightness in the cash market for the next month or so but traders await a new harvest from Brazil soon. Traders believe the taker of the large deliveries may not have a home for the sugar which just added to the aggressive selling yesterday as a lack of interested new buyers in the cash market recently has been an added negative force. The real key to avoiding another world production deficit for the coming year will be weather for India and China as both regions have seen sub-par crops in the last two years and India saw an especially poor crop last year due to poor monsoons in June and July. The China sugar Association believes this years crop will be near 11 million tonnes from 12.43 million last year. This could leave a significant production deficit. May sugar collapsed to close sharply lower on the session yesterday and moved to the lowest level since early December with fund traders noted as aggressive sellers. Keep in mind; the combined spec net long position (small and large specs combined) as of February 23rd was still 186,603 contracts. This was down 22,219 contracts for the week but this is still a very large net long position. Traders indicate that the slow pace of demand in the past few weeks in the cash market and big deliveries against the March contract helped to pressure. The move under last weeks lows added to the bearish tone and sparked more selling. Deliveries came in at 11,951 contracts as compared with expectations for 5,000-10,000. Exports from Brazil for the month of February reached 979,900 tonnes, down from 1.289 million in January and up slightly from 940,700 tonnes in February of 2009. Ethanol exports were just 21,400 liters from 152,900 liters in January and down from 118,500 liters in February of 2009.

TODAY’S GUIDANCE: The market is still looking for a low enough price to find increased interest is sugar and speculative long liquidation selling could remain active.

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May cocoa’s chart remains weak and after yesterday’s downside breakout the market looks to be on track for an eventually slide to test the $2,750 price level. A good portion of yesterday’s selling in cocoa looked to be currency connected. Cocoa fell on arbitrage related selling tied to the Pound which slid to a 10 month low and was under pressure after a political poll suggested no UK party would win a majority in parliament in the upcoming general election. May cocoa may have some ability to bounce this session depending on the currency action, but in the early overnight action the Dollar has continued to gain against the Pound and Euro and that could keep cocoa under pressure. We still see the upside for cocoa limited by the market’s fundamental and technical setup which will leave downside price risk in place. May cocoa has fallen back from 30 year highs reached in January as it is becoming increasingly apparent that this season’s Ivory Coast crop will be larger than last year. The main Ivory Coast harvest is winding down and arrivals to ports are running 4.6% ahead of last season. While the Ivory Coast’s cocoa marketing body reported that the main crop cocoa harvest would likely end up below the 5 year average of 885,000 tonnes, traders seemed to be focusing on the fact that supplies will be bigger than last year given the improved prospects for the upcoming mid crop. After seeing a good mix of rain and sun over the last month some industry forecasters are significantly raising the outlook for mid-crop production and part of the liquidation selling seen in cocoa yesterday was certainly tied to the supply side news. Even the political situation in the Ivory Coast is calming down and that will remove a geopolitical threat from the cocoa market. While the supply outlook for cocoa has improved, sentiment in cocoa has been damaged by ongoing concerns that high sovereign debt levels in Europe and the UK will hinder the economic recovery in major chocolate consuming regions. ICE cocoa warehouse stocks stand at 4.363 million bags, up 32,751 bags.

TODAY’S GUIDANCE: Yesterday’s price action in May cocoa was technically bearish. Based on the contract low (November 2008) to high (January 2010) range, a 50% retracement comes in at $2,747 while a 61.8% retracement comes in at $2,566. With funds still holding nearly 28,000 contracts net long as of early last week, cocoa would seem to have ample selling capacity and that may push the market toward $2,750 before a significant technical bounce is seen. The May contract could trade as low as $2,566 if there is a bumper Ivory Coast mid-crop.

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The market is probing for a near-term low and there seems to be enough uncertainty on the longer-term supply outlook and enough tightness in the near-term cash market to forge a low soon. The market may see another leg down into the heart of the harvest this summer but the recent sell-off is likely enough to attract significant end user support. May coffee closed slightly higher on the session yesterday after choppy and two-sided trade for much of the day. The strong US dollar and a sharp sell-off in sugar pressured the market at times but strength in the Brazilian currency and ideas that world demand should remain strong for coffee helped to support the market. Ideas that the market is oversold after last weeks heavy losses and a continued trend towards declining exchange stocks helped to support. Rain is expected for Brazilian robusta coffee producing areas which have suffered from more than two months of a drought. Traders see losses of 20-40% in many areas which were just too dry and especially too hot in the past few months. Brazil produces mostly arabica coffee but is also the world’s second largest robusta producer outside of Vietnam and the drought effected state of Espirito Santo was expected to produce near 11.5-12 million bags of robusta and arabica coffee this season. Exports from Brazil for the month of February reached 2.08 million bags, about unchanged from January and down from 2.287 million bags in February of 2009. February exports from Honduras reached 608,082 bags which pushed the October to February total to 1.14 million bags, up 40.7% from last year. February exports from Costa Rica reached 150,591 bags which pushed the October to February total to 394,916 bags, down 20% from last year. The COT reports on Friday showed a slight long liquidation trend for coffee with trend-following funds shifting from a net long to a net short position of 394 contracts. Funds were sellers of a net 2,974 contracts for the week and the selling trend is seen as a short-term bearish force. Even commodity index traders reduced their net long by more than 1,000 contracts to a net long of 53,553 contracts. Daily ICE certified deliverable coffee stocks were up 1,505 bags yesterday to 2.772 million with 34,159 bags pending review.

TODAY’S GUIDANCE: It will take a move over 133.90 to turn the minor trend up for May coffee with light support at 131.20 and 130.25. Don’t rule out a recovery to key resistance up near 138.45.