I’ve been trying to do some research on the changes in the commodities outlook for the rest of 2007, due to the booming demand for ethanol and other biofuels. My main concern is what sectors will really be affected by the changes in farmers’ output (in terms of field usage), and whether or not imports will be able to fill in any gaps to help mitigate decreases in supply.
The one concern that I have noticed coming at the end of last week is the possible tensions for both cotton as a raw material in the United States and cotton finished products, or more appropriately, textiles.
According to figures from the USDA, US Cotton planted area is expect to drop by 20% in 2007, the fewest acres since 1989. It is assumed, that the difference will need to be made up in imports from other countries, which have already been on the rise. Cotton imports from 1996-2006 are up roughly 250%. However, despite increases in world cotton output, demand is still outpacing production. This has already caused an increase in world cotton prices, but less so then for other commodities. Not surprisingly, China plays a large role in this equation for the US. In January 2007, cotton imports from China increased by 64% year-over-year. Helping buoy China’s cotton output has been this strong demand and a seed subsidy from the government.
The Chinese government is beginning to take on its growing trade surplus by decreasing many of its domestic subsidies that have been helping its local industries. On Friday, came a report that China will be cutting its tax rebate on textile exports. It is my assumption that this will slow the growth of Chinese textiles and/or increase the price of importing end product textiles. Given the strong demand for these products, it is more likely that we will see an increase in the price of finished goods for American textile importers. However, if the decrease in tax rebate does slow the growth of textile production in China, it may help lift the supply of the raw material, offsetting some of the production declines across the globe, but probably not in a truly significant manner. Note using a longer term scope only India and China have been increasing cotton production, while other countries have been cutting output.
It is my belief that apparel manufacturers and retailers will both face increasing prices in 2007. If this is the case, they will face shrinking margins or the conundrum of passing along the increase to the consumers at a time when they will already be pinched by gasoline prices. The key factor in this for US based farmers and companies will be China, who could significantly alter these forecasts in either way.
If you look at the cotton futures chart, you will notice a rather large sell off prior to the options expiration. I believe that this makes the time ripe to purchase into this market, with nearly all future contracts looking attractive.
Disclaimer: I have no current or past position in cotton futures.