Big Development In Livestock As Cotton Looks Bearish

 |  Includes: BAL, COW, CTNN, LSTK, UBC
by: Lionfin Capital


The latest International Meat Review report forecasts a prolonged decline in cattle supplies.

Cattle exports decreased sharply over the past month.

Cotton stocks are forecast as higher than last year.

Net downward revisions in cotton imports highlight weak demand.

Livestock Update

In a recent article, I observed that the 10 year cattle (NYSEARCA:COW)(NYSEARCA:LSTK)(NYSEARCA:UBC) cycle, which contains 5 years of bull market followed by 5 years of bear market, is 4 years into the bull market phase. However, the latest International Meat Review stated that beef production will decline through 2016. This piece of data is crucial, because it deviates from the average five year cycle. Given the average five year cycle, one would expect beef production to rebound in early 2015. The latest review is a huge development, because it projects supply declines for an additional year, thereby extending the cattle bull market.

In Monday's ERS Livestock and International Trade Data report, we learned that global cattle exports decreased by 39.6% from December of 2014 to January of 2014. The drop in exports, potentially revealing slowing macro demand, sent cattle futures modestly lower. However, lackluster winter weather in the US can be reasonably blamed for the slowdown as harsh weather hinders cattle transportation. The market largely ignored the weak export data as cattle futures declined modestly on Monday. The muted market response is likely due to the declining supply that limits the impact of decreases in global demand. The chart I created below, using the ERS data, shows global cattle exports over the past 6 months.

While global demand looks decreasingly healthy, the new forecast for continued production declines should continue to support cattle prices for the next year. However, at a fresh 52-week high, investors may want to wait for a small pullback to enter into long positions. For investors seeking exposure to the cattle market, the iPath Dow Jones-UBS Livestock Subindex Total Return ETN, COW, offers the maximum exposure of any livestock ETF to the cattle market, with a 63.86% weighting (the other 36.14% is weighted toward lean hogs).

Cotton Under Pressure

In Monday's WAOB report, no supply shocks were reported that would challenge the growing global cotton stocks. The image below shows the different shares of global cotton (NYSEARCA:BAL)(NYSEARCA:CTNN) production by country.

In China, the global production leader, farmers shifted away from cotton and toward corn. Along with the shift away from cotton, China is expected to reduce state-held reserves this year. As a result of these two pieces of information, China will contribute little to this year's increase in global cotton stocks. Despite rapidly increasing production over the past four years, Chinese production is forecast in-line with last year's production. In Brazil, the cotton crop was reported to have an adequate supply of water in the northeast, where the plant is grown. Argentina also reported good growing conditions for cotton. One drag in global production will come from Australia where global production is expected to decline due to hot and dry weather.

Other highlights from Monday's report include global cotton production in March, which is expected to be in-line with February's production at 116.7 million metric tons. The reasons behind the in-line forecast are the balancing forecast revisions. While U.S. production was revised up by 200,000 bales, Australia and Uzbekistan's exports were revised down by a combined 200,000 bales. Meanwhile, global demand was revised downward. While Bangladesh, Turkey, and Vietnam were revised up by a combined 450,000 bales, Pakistan was revised down by 500,000 on weak global demand.

Given the latest estimates for a growing supply of cotton and the net downward imports revisions, cotton looks bearish. Before investors initiate short positions, the bullish cotton chart needs to turn to the downside, as momentum indicators and moving averages can be expected to support prices in the short-term. For investors seeking exposure to the cotton market, there are two options. The Pure Beta Cotton ETN, CTNN, tracks the Barclays Capital Cotton Pure Beta TR Index and the Dow Jones-UBS Cotton Total Return Sub-Index ETN, BAL, tracks the Dow Jones-UBS Cotton Subindex Total Return.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: Lionfin Capital is a group of investors.