2016 Cotton Economic Outlook
NCC Annual Meeting
February 5-7, 2016
Good morning. Thank you for the opportunity to present the National Cotton Council's economic outlook for U.S. and international cotton markets. While the presentation will focus on a few highlights, the full report will be available at the end of this session.
2015: Year in Review
Over the course of 2015, cotton futures remained relatively stable even though oil prices and other commodity prices dropped. World cotton production fell while consumption stayed relatively flat, resulting in the first drop in ending stocks since 2009.
The cotton market continues to be influenced by uncertainty in government policies, developments in other commodity markets, and a changing macroeconomic climate. Growth in world cotton demand remains a key concern as global stocks and competition from lower priced manmade fibers weigh on the market.
U.S. Balance Sheet – Recap Current Marketing Year
To recap the current 2015 marketing year, USDA's most recent estimate puts last year's harvest at 12.9 million bales, down 3.4 million bales from the previous year.
According to the January USDA estimate, U.S. producers planted 8.6 million acres of cotton in 2015, a decrease of 22% from the previous spring, and the lowest level since 1983. The reduced acres were primarily the result of lower cotton prices relative to grains and oilseeds as well as the inability to plant due to excessive rainfall. Significant weather issues occurred across the Cotton Belt resulting in a loss in yields and a significant reduction in quality for the 2015 crop, particularly color grades in the southeast.
The USDA estimate for U.S. mill use is 3.6 million bales, up 25 thousand bales from 2014 and marking the fourth consecutive year of increased consumption. The current estimate is in line with recent monthly consumption numbers.
While the January USDA estimate for U.S. exports is 10 million bales, NCC is projecting a lower volume of 9.5 million bales due to current YTD sales. As of the end of January, total commitments are only about 60% of the USDA estimate. The total export sales volume in mid-January was the lowest mid-January level since the 2001 marketing year. The reduced NCC estimate may even be a bit optimistic. To reach 9.5 million, the weekly pace will need to increase throughout the remainder of the marketing year. However, this past week, a much needed increase in sales and shipments did occur. As a result of the reduced export number, NCC projects 3.6 million bales of ending stocks, 500,000 higher than estimated by USDA.
NCC Acreage Survey
With that review in mind, the projections for the 2016 marketing year will begin with the outlook for U.S. production. As in past years, the prospects for the U.S. crop are based on the results of the NCC planting intentions survey with assumptions made for abandonment and yields.
Surveys were distributed on December 17 and responses were collected through mid-January. Respondents are asked to give their plantings of cotton, corn, soybeans, wheat, and other crops for 2015 and intended acreage for 2016.
Pre-Planting Market Signals
As always, the survey results should be viewed as a measure of grower intentions prevailing at the time the survey was conducted. During the survey period, the cotton December futures contract averaged just under 65 cents per pound, which is very similar to year-ago levels. However, corn and soybean prices are below year-ago levels, so price ratios of cotton to competing crops are a bit more favorable than in 2015.
It is important to call attention to the ratios because past experience has shown that these ratios are reliable indicators of changes in cotton acreage. Historical data over the past 10 years shows a clear relationship between the price ratios and changes in cotton acreage. A review of the Council's survey will begin with a look at the Southeast.
2016 Southeast Acreage
In the Southeast, survey results indicate a 5% decrease in the region's area to 2.1 million acres. Across the six states, the results are mixed with increased acreage in Alabama and Florida and a decrease for the other states. In Alabama, the survey responses indicate a 9% increase in cotton acreage and a reduction in wheat and soybeans. Florida reports the largest percentage increase in the region where growers intend to plant 23% more cotton in 2016, with acreage almost exclusively moving away from peanuts into more cotton.
The largest percentage decline is in North Carolina where growers report a 19% reduction in cotton acreage in 2016. North Carolina growers report the largest shift to soybeans. The drop in North Carolina cotton acreage is notable because it becomes the lowest total in recent years.
In South Carolina, acreage is expected to decline by 13% as cotton acres shift to corn and soybeans. The expected decline in South Carolina cotton acreage is not unprecedented as acreage has previously been this low in 2009 and 2010.Both Georgia and Virginia report a more modest drop in acreage. Growers in Georgia intend to plant 1.1 million acres, down 5% from 2015, with corn and soybeans pulling acres from cotton. Virginia will cut cotton acres by 1%.
Overall, across the Southeast, the states that had more issues with harvest, including yield and quality losses, along with increased financial pressures, are showing the greatest reduction in cotton acres for 2016.
2016 Mid-South Acreage
In the Mid-South, growers have demonstrated their ability to adjust acreage based on the relative prices of cotton and competing crops. This year's survey results are no different with growers intending to plant 1.2 million acres, an increase of 25% from the previous year. Across the region, all states are expected to increase cotton acreage. Mississippi reports the largest increase of 40%. While a significant percentage increase, this just brings the acreage back to where it was in 2012 and 2014.
Growers in Tennessee indicate an increase of 25%, while Missouri producers intend to plant 14% more cotton than in 2015. Louisiana will increase acreage by 8%. In Arkansas, the survey indicates that cotton acreage will increase by 21% in 2016.
Across the region, the respondents indicate a reduction in wheat, soybeans, corn, peanuts, and grain sorghum.
While expected revenue for cotton isn't much different than last year, corn and soybean prices are weaker, and we are likely picking up some sorghum acreage due to pest issues in 2015.
2016 Southwest Acreage
Growers in the Southwest intend to plant 5.3 million acres of cotton, an increase of 6%. Increases in cotton area are expected in each of the three states. Growers in Kansas intend to plant 24 thousand acres, a 47% increase from 2015. In Kansas, land is shifting away from wheat, soybeans, and grain sorghum.
In Oklahoma, a 14% increase in acreage is expected as wheat acreage declines. Overall, Texas acreage is expected to increase by almost 6%. In Texas, the survey is divided into regions and results indicate that a slight decrease in acreage in the Blacklands and west Texas is offset by a large increase in south Texas.
In south Texas, respondents indicate a significant increase in cotton acreage as land shifts away from wheat, soybeans, grain sorghum, and cotton reclaims some land that was idled due to excessive moisture in 2015.
2016 West Acreage
In the West, producers intend to plant 24% more acres of upland cotton in 2016.Arizona is responsible for the increase, with California and New Mexico acreage down slightly. The survey results for Arizona suggest a shift from wheat and 'Other Crops' to cotton. The Arizona increase is a large % change but still doesn't get acreage back to where it was in 2014.In New Mexico, the responses indicate a shift to ELS cotton.
2016 ELS Acreage
With expectations of improved water availability in California for 2016, survey results indicate that U.S. cotton growers intend to increase ELS plantings by 31% in 2016. The state-level results show increases across all four ELS-producing states. Arizona growers are expecting to plant 35% more ELS cotton.
U.S. Cotton Production
Summing across the 4 regions gives intended 2016 upland cotton area of 8.9 million acres, almost 6% above 2015.
Summing together the upland and ELS cotton intentions shows U.S. all-cotton plantings in 2016 of 9.1 million acres, 6% higher than 2015.
Once again, it is important to remember that the survey is a snapshot in time based on grower intentions. Changes in markets and weather will cause actual plantings to differ from early-season intentions.
Planted acreage is just one of the factors that will determine supplies of cotton and cottonseed. Ultimately, weather, insect pressures, and agronomic conditions play a significant role in determining crop size.
Since the NCC economic outlook does not attempt to forecast weather patterns, the standard convention is to assume yields in line with recent trends and abandonment consistent with historical averages. However, it is important to remember the volatility around projected production given the uncertainty of weather patterns.
With abandonment set at 11% for the U.S., Cotton Belt harvested area totals 8.1 million acres. Using an average yield of 831 pounds generates a cotton crop of 14 million bales, with 13.4 million bales of upland and 595 thousand bales of ELS. The projected crop represents a 1.1 million bale increase from the latest 2015 estimate.
U.S. Balance Sheet
Returning to the U.S. balance sheet, we can turn our attention to the prospects for U.S. cotton demand. First, let's look at cotton consumed by U.S. mills.
U.S. Cotton Mill Use
A slight increase in consumption by the domestic textile industry is projected in the 2016 marketing year. U.S. mill use is projected to grow by 50 thousand bales, bringing the total to 3.65 million bales. Textile trade estimates for 2016 suggest that the overwhelming majority of products manufactured by the U.S. textile industry will move into export markets for further processing.
Export markets continue to be the primary outlet for U.S. raw fiber production. A significant development for the industry is the shift in U.S. export customers in the past few years.
World trade is down due to sharply lower imports by China. Although U.S. exports to China have been declining since 2012, drastic reductions have occurred in the 2015 marketing year. For 2010 through 2012, China was overwhelmingly the largest export destination for U.S. fiber, accounting for 43% of the total. For 2013 through 2014, China remained the largest market, but its share declined to 25%.
Current U.S. export sales to China are about 80% lower than this same time last year. As of the end of January, China only accounts for 6% of U.S. cotton exports. This has contributed to the decline in U.S. exports experienced in the 2015 marketing year. Mexico, Turkey, Vietnam, and other markets in Asia have gained in importance in recent years.
China's Cotton Policy
China continued the target price program in 2015 at a level of approximately $1.40 per pound. The target price program was applicable to the Xinjiang province during the 2015 crop year. While details regarding the 2016 policy structure have been slow to emerge, this outlook assumes that the policies remain in place for the 2016 crop.
In 2015, China announced that import quotas would be limited to the required WTO minimum tariff rate quota (TRQ) of 4.1 million bales. A similar stance is assumed for the 2016 crop year.
While much uncertainty remains regarding China's massive stockpile, the China Textile Association recently indicated that a portion of the reserves will be released in March or April to meet the demand of domestic cotton textiles companies. The Chinese government is expected to release a larger amount than in earlier auctions and the price will be driven by the domestic and world markets.
Increased sales of Chinese reserve stocks could lead to more domestic spinning of cotton and reduce China's imports of cotton yarn. However, until there is further clarity on China's future policy direction, the NCC does not incorporate any major change in the management of reserves, thus contributing to the further decline in domestic spinning for 2016.
China's policies have direct implications on its internal prices. During the years when cotton was purchased into reserves, the support price essentially acted as floor on the market price. Cotton prices in China were supported at levels well above the "A" Index and above polyester prices.
With the transition to the target price program and the government no longer accumulating reserves, cotton prices in China have declined. In the current marketing year, China's internal cotton price has continued to drop, thus narrowing the gap between China's domestic price and the price of imported cotton. However, at close to $0.90, internal cotton prices are still more than twice the level of polyester prices as those prices have also weakened. That price relationship is not allowing cotton mill use in China to recover. Polyester prices will likely not strengthen over the coming year with projections of low oil prices in 2016.
China has made significant changes in cotton policy in the past few years and is no longer the world's largest cotton producer. For the past four years, China has been reducing cotton acreage and production. In 2015, overall cotton area declined by 23.0% and production was at the lowest level since 2000.
Another 8% decline in acreage is projected for 2016 due to lower cotton prices as well as preferential grain policies.
China Balance Sheet
For 2016, China's production is estimated at 21.9 million bales.
Despite being the largest spinner of cotton, China's demand remains a concern as domestic use struggles to recover. Between 2009 and 2014, China's mill use fell by almost 17 million bales as high cotton prices relative to manmade fibers forced spinners to turn away from cotton. As a result, cotton mill use in China is expected to show a slight reduction in the current marketing year, as well as a further decline in 2016. Unfortunately, government policies, and their impacts on China's prices, are not allowing either cotton production or demand to adjust to a market-driven level, and imports are reduced as a result.
Considering the massive stockpiles of cotton and expectations for limited quota, China's imports are expected to fall further in 2016 to 4.75 million bales.
It is important to mention that while China has made some adjustments to cotton production and raw fiber imports, they still remain an important player in the world cotton industry. In the last year, China has increased yarn imports by 19%. On a cotton equivalent basis, China is importing twice the amount of raw fiber imports in yarn.
The adjustments in China's supply and demand will allow a modest reduction in stocks, down 5.6 million bales to 58.9 million. The stocks remain a burden on the 2016 cotton market.
India Balance Sheet
In terms of the global trade picture, government policies in India will play a role in the outlook for the coming year. India currently has a Minimum Support Price (MSP) program for cotton. In previous years, a significant amount of India's production moved into government stocks when market prices were below the MSP. However, India's internal price has increased over the past year and is currently above the MSP price.
India recently announced a change to the MSP program. Instead of physical procurement of cotton, the central government will directly transfer cash to farmers based on the difference between the market price and the MSP. Initially, the new program will be offered as a pilot program in a few regions.
India's cotton acreage is projected to increase slightly in 2016 as internal cotton prices have strengthened due to increased demand from Pakistan along with additional government support. India's domestic mill use of cotton is projected to continue to grow, leading to a reduction in exports. For the 2016 marketing year, India is expected to export 5.4 million bales.
World Cotton Trade
As the net effects of the trade adjustments are aggregated together, world cotton trade for 2016 is estimated at 35.8 million bales, down from 36.1 million in 2015. The United States is expected to capture approximately 29% of world trade by exporting 10.2 million bales in the upcoming year. The increase in U.S. exports is a result of less competition from other major exporting countries, including Brazil, India, and others.
U.S. Balance Sheet
When exports are added to U.S. mill use, total offtake is 13.8 million bales. Recall that the U.S. crop is estimated at 14 million bales, thus leading to an increase in ending stocks of 193 thousand bales.
World Balance Sheet
For the world balance sheet, global production increases as larger crops in the U.S., India, and Pakistan offset the 1.9 million decline in China's production. At 105.4 million bales, the projected crop is 4% higher than in 2015. World mill use is projected to increase to 112.1 million bales, exceeding production by 6.7 million bales. Although cotton's share of world fiber demand has been declining, total cotton consumption has been slowly increasing for the past 5 years.
Although world mill use showed only a slight increase in 2015, cotton mill use outside of China is growing at a faster pace and world consumption is projected to increase by 1.2 million bales in 2016. The growth is mainly from India, Vietnam, and Bangladesh. Further growth projected for the coming year is lending support to better trade numbers for the U.S.
World cotton stocks decline in the 2016 balance sheet, but the decline of 6.3 million bales does little to reduce global inventories that begin the year at 103 million bales. While projections of global consumption exceeding production would normally be supportive of prices, the implications for the coming year may not be as clear cut. The majority of the decline in global stocks is due to reduced inventories in China. An aggressive approach by China to reducing stocks would have bearish implications for world prices, particularly if the increased availability of reserve cotton reduced China's demand for imported cotton yarn.
Stocks outside of China – an important indicator of price conditions – are projected to decrease by 682 thousand bales. Global markets should find support in a stocks-to-use ratio outside of China projected to be the lowest in recent years.
While the Council's economic outlook does not attempt to project cotton prices, it is important to review some of the factors shaping the current price situation. Sluggish cotton demand, smaller imports by China, weakness in other commodity markets, and a stronger dollar created a bearish climate for U.S. and world cotton prices.
For the past two years, U.S. cotton producers have struggled with low cotton prices, high production costs, and the resulting financial hardships. With current futures markets indicating steady prices, the economic situation for producers is not likely to improve in 2016. There is concern that some producers will find it very difficult to obtain production financing for the current year.
The U.S. export pace will be a key factor to monitor during the remainder of the 2015 marketing year as well as the shift in customer base for U.S exports.
We still face a number of uncertainties in cotton mill use, particularly as the global economy struggles.
While projections of global consumption exceeding production would normally be supportive of prices, the projected differential is not large relative to global stocks.
As with any projections, there are always uncertainties and assumptions that can dramatically change the balance sheet.
2016 is shaping up to be another challenging year for the U.S. cotton industry. Council economists hope this outlook can provide insights to help the industry address those challenges.