Yarn profit & spread with VSF and PSF apparently recover after cotton price tumbled

During the week from Jun 20 to Jun 24, Zhengzhou cotton futures market declined more significantly, with the largest fall on Friday, down by over 1,000yuan/mt only in the morning and by over 8% in one day. In addition to the weak fundamentals, the sharp decline of cotton futures within the week was mainly attributed to the macro environment. Jerome Powell said the central bank was “strongly committed” to maintain 2% inflation, and “soft landing” has become more challenging. Later, he said the central bank had no imminent plans for further interest rate cuts, and US Manufacturing PMI dipped to a two-year new low. Under this macro sentiment, worries over the global economic recession intensified. Commodity prices stepped downward overall in both Chinese and international markets, and ICE cotton futures market also started to head south. The Dec contract slipped over 5% on Jun 22 and Jun 23. Both Chinese and international cotton prices declined. Meanwhile, the stop-loss of long positions in China also intensified the decline. Multiple factors affected the large decline of ZCE Sep cotton contract on Jun 24 and forward contract hit the down limit.

Since the cotton prices started to decline from late May, ZCE cotton futures have returned to the level before Oct, 2021. Theoretical profits of yarn have recovered apparently. On Jun 24, the theoretical profits of cotton yarn have recovered to 946yuan/mt, better than polyester/cotton yarn. Nevertheless, cotton yarn prices still have downward space with continual fall of cotton prices and difficulties in operation.

Price spread of cotton with PSF and VSF also narrowed largely, especially the price spread of cotton and VSF, which had returned to a normal level.

From the perspective of fundamentals, the bearish sentiment on the fundamentals has been released largely on cotton futures market, and the remaining influencing factors are mainly the macro sentiment, industrial policies, Xinjiang cotton ban and recovery of downstream demand.

The major influencing factor for the sharp decline of cotton futures last week was mainly the macro sentiment. ICE cotton futures started to slump, making Chinese cotton market weaker. Of course, the fundamental of Chinese cotton market is poor, but if macro environment eases, the Chinese cotton market may improve. If the macro sentiment keeps bearish, cotton prices still have downward space.

For the industrial policies, there are rumors that Chinese government may sell reserved imported cotton and purchase Xinjiang cotton into state warehouse, with a reserving volume of 500kt. But the influences depend on the volumes, price, and reserving and selling method. There is still no official news yet.

Xinjiang cotton ban and downstream demand is the similar influencing factor, that is the influence of downstream demand on cotton consumption. ZCE cotton futures market has slumped, and this bearish factor has been released somewhat. Whether the Xinjiang cotton ban will continue to pose negative impact on cotton price needs to be seen from the end-user product import and export. In short, the continual large fall of cotton prices has led to limited downstream orders. If cotton prices stabilize, orders may be concluded with recovery of yarn profits and narrower price spread with PSF and VSF.

ZCE cotton futures have started to decline from late May, and Sep contract once reached the lowest of 16,885yuan/mt, down by 5,150yuan/mt from the high of 22,035yuan/mt in May. The most part of bearish factors from the fundamental have been released, but the macro environment and downstream demand is still unclear, which may make cotton prices hard to rebound strongly.