Will cotton-VSF price gap widen further?

Cotton price in China has been rising since the end of Jul, while VSF has been stagnating and even dropped instead of going up. The spread between cotton and VSF has widened rapidly above 5,000yuan/mt from 2,000-3,000yuan/mt in the past. Why did it happen? What has occurred in rayon end-user demand?

Current cotton growing situation is not as good as that in the same period of last year and the agreement of production cut has been reached for 2021/22 crop year, which is estimated at 5.763 million tons, down almost 3% year on year. There is higher expectation for a flurry of seed cotton procurement due to less cotton output and there are more rumors about the procurement price exceeding 8yuan/kg or even touching 9yuan/kg. Therefore, ZCE cotton futures has been stronger recently with spot cotton price rising constantly, which has gained 1,500yuan/mt as of Aug 17 since Jul 20). VSF lacking hot issues and demand attracts less attention from capital market, then the price has been dipping. The price of cotton 3128 is now at 18,600yuan/mt and that of VSF is around 13,200yuan/mt, with the price gap more than 5,000yuan/mt.

The enthusiasm of rayon fabric mills has been reducing squeezed by narrowing profits this year. Coupled with container shortage, soaring sea freight and resurgence of COVID-19 cases in China since the end of Jul, end-user demand has been under pressure. Downstream plants are inactive in procurement and weaving mills receive fewer new orders. There are more losses by producing fabric made from spot raw materials, so weaving mills are hard to raise operating rates and they even become more eager to cut production.

Some companies reflect that grey fabric cost has advanced much driven by rising feedstock prices this year, but it is difficult for weaving mills to transfer cost when fabric price is hard to increase, so more machines have been shut down. In Foshan and Chaoshan of Guangdong, the operating rate of circular knitting machines has dropped to 30-50%. In Gaomi of Shandong, more weaving fabric mills have been closed for holidays this year and they are even selling machines.

Now the price spread between cotton and VSF has widened above 5,000yuan/mt, which is likely to further increase in the short term, but narrow in medium-to-long term because cotton price is pushed up by its agricultural and financial nature as well as restocking by downstream users ahead of time, instead of good sales of cotton fabric, while VSF reflects the seasonal supply-demand relationship and features of industrial products.

In the short term, rayon fabric mills are hard to raise run rates when products are squeezed and price is hard to climb up, so feedstock consumption cannot increase. In the medium term, the market may not be so prosperous in peak season and the price may fluctuate in line with raw materials.