(The opinions expressed here are those of the author, a
columnist for Reuters.)
By Clyde Russell
LAUNCESTON, Australia Jan 23 China's decision
to end stockpiling of cotton may not be as bearish for prices of
the fibre as the market fears.
Much will depend on how the Chinese switch from buying
cotton from domestic farmers at elevated prices to paying them
subsidies related to international prices.
What happens to China's massive hoard of cotton will also be
important, given the total stockpile is believed to be in excess
of 10 million tonnes, or more than half the world's total.
So far Chinese authorities have said the subsidy scheme will
start after the autumn harvest and will take into account
domestic supply and demand and international prices.
This isn't exactly specific, but let's assume that the
authorities will more or less pay local farmers the same as the
landed cost of imports.
The result of this should be that more domestic cotton flows
to the Chinese market, instead of piling up in state warehouses,
as has happened under the buying scheme that started in 2011.
This would appear to be bearish for global cotton as it
implies China's import demand will slow, thus removing a pillar
of price support.
However, it may not work like this in reality.
The Chinese government was paying farmers about 20,400 yuan
($3,370) a tonne for cotton last year, which was a 60 percent
premium to the landed cost of cotton in December, put at $2,102
a tonne by Chinese customs data.
If the government was to subsidise domestic cotton to put it
on a par with the cost of imported supplies, this implies a
drastic reduction in payments to farmers.
Such a significant cut in farmers' incomes will undoubtedly
result in much-reduced cotton plantings, and the likelihood of
some sort of protest by farmers.
At any rate, the risk is that China's 2014 domestic cotton
output is well below the 6.3 million tonnes reported for 2013.
Nonetheless, it does imply that in the absence of buying for
stockpiles, more domestic cotton will be available.
DEMAND TO RISE?
But this might not overwhelm the market and cut imports by a
huge amount, given the pent-up demand inside China.
Not only did the government stockpiling distort the growing
of cotton, it also affected domestic supplies as spinners
couldn't afford to buy the high-price local crop and were forced
to turn to imports, or move production offshore.
Spinners were also subject to strict import quotas, meaning
they probably couldn't get enough cheaper cotton from overseas
to meet their demand.
Making domestic prices cheaper may result in an increase in
demand from China's spinners, thereby increasing the size of the
overall market for cotton.
It's also doubtful that the government will be in a hurry to
offload its cotton stockpile.
Firstly, the authorities will want to bed down the new
subsidy system, and secondly, they will be reluctant to sell at
a loss, and will likely prefer to slowly reduce inventories by
selling a smaller amount at higher prices.
While none of the above factors are bullish for cotton
prices, they do serve to put a question mark over just how
bearish the end of government stockpiling will be.
While cotton prices at the front end of futures curves
haven't reacted to the news, the further-out contracts have been
weakening, sending the curves into steeper backwardation.
The front-month contract for benchmark ICE cotton <0#CT:>
was at 87.79 U.S. cents a pound in midday trade in Asia on Jan.
23, a premium of 9.3 percent over the six-month.
One month ago, the front-month contract was 6.4 percent
above the six-month, while as recently as nine months ago the
curve was actually in contango, with the six-month future being
3.7 percent above the front-month.
The shift in the curve indicates market participants believe
China will demand less cotton from global markets, but how much
less is still uncertain and the risk is imports will hold up
better than many anticipate.
(Editing by Richard Pullin)