Annual Economic Outlook for Cotton

2019 Cotton Economic Outlook
NCC Annual Meeting
San Antonio, TX

February 8-10, 2019

Current Outlook
This past year can be characterized as a year with significant uncertainty and volatility in the global economy and the world cotton market. One of the most challenging issues facing the global cotton market is the uncertainty surrounding the ongoing trade tensions between the United States and China. As of early February, the two countries had concluded a round of talks aimed at resolving the dispute with further discussions planned for mid-February. President Trump has set a March 1 date for either resolving the trade issues or increasing the tariffs applied to approximately $200 billion of imports from China.

For this outlook, the ultimate fate of the tariffs is a significant wildcard impacting the global market. Based on the positive statements resulting from the recent negotiations, the NCC assumes that the additional tariffs being imposed by the two countries will be removed in advance of the 2019 marketing year. With exact timing unknown, the ultimate resolution is not assumed to have a significant impact on the balance sheet for the 2018 marketing year. However, the assumed resolution plays a significant role in the balance sheet for the 2019 marketing year. Several key impacts will be highlighted during the review of the projections.

2018: Year in Review
In the first half of 2018, cotton futures prices trended upward, reaching a high of 95 cents/lb. in mid-June. Cotton prices were at the highest level in four years and had strengthened relative to competing crops. U.S. producers responded accordingly by planting more cotton in 2018. Despite the political turmoil under the Trump administration, expansion in the U.S. economy was continuing at a strong pace. Oil prices strengthened to $71 per barrel by July, which was the highest level since November 2014.

Following the announcement of the first Chinese tariff list by President Trump on June 14, China immediately responded by announcing a 25% tariff on imports of selected U.S. goods, which included cotton. From June 12 to July 5, the nearby NY futures contract dropped by 12 cents to 83 cents/lb. Cotton prices bounced back in August but followed a downward trend throughout the remainder of 2018. Oil prices remained relatively stable at close to $71 per barrel from July to November until prices sharply declined to $57 per barrel at the end of the year.

2018 U.S. Cotton Production
As we review the latest estimates for the 2018 U.S. crop, this year was a good reminder that planted acreage is just one of the factors determining the supply of cotton and cottonseed. Various weather events, including drought, hurricanes, and harvest-time rainfall, resulted in large disruptions to the 2018 growing and harvest season.

In the USDA report released yesterday, USDA increased planted acreage by 57,000 acres to 14.1 million acres. While planted acreage increased in 2018, the latest USDA production estimate is 18.4 million bales, which is 2.5 million bales lower than 2017. In the estimate released yesterday, USDA reduced U.S. production by 200,000 bales. The changes were interesting since production was reduced in all regions except the Southeast. The Georgia estimate was increased by 50,000 bales.

In the Southwest, cotton acreage increased to 8.6 million acres, the highest level since 1980. With the exception of the 1980 crop year, the Southwest acreage has not been above 8.6 million acres since the 1950’s. The highest level in recent years was 8.0 million acres in 2011. with Texas planting 7.6 million acres. Texas producers planted 7.7 million acres in 2018. Oklahoma’s acreage expanded by 33% to 780 thousand acres, while Kansas area increased by 77% to 165 thousand acres. Oklahoma now has the 3rd highest cotton acreage in the United States.

In the Southeast, acreage expanded by 363 thousand acres in 2018. In all states except North Carolina, 2018 cotton acreage was the 2nd highest in the last 10 years, behind the 2011 crop year. The largest increases occurred in Georgia and Alabama. Mid-South acreage increased slightly in 2018, while upland acreage in the West declined by 36 thousand acres.

Abandonment was much higher in 2018 as compared to recent years. U.S. abandonment is estimated to be 25% in 2018 as compared to 13% in 2017. Drought conditions in the Southwest resulted in large levels of abandonment in Oklahoma and Texas, while hurricanes and frequent harvest-time rains contributed to higher abandonment in the Southeast.

With 17.2 million bales classed through February 7, color grades for the 2018 crop are lower than in 2017 as a result of the weather issues across the Cotton Belt. In total for the Cotton Belt, 77% of the 2018 crop is grading 41 or better as compared to 88% of the 2017 crop. All regions fell below their five-year average in terms of color.

U.S. Balance Sheet
U.S. mill use is estimated to be 3.2 million bales in 2018, while US exports are projected at 15 million bales. The current marketing year began with cotton stocks at 4.3 million bales. When added to the recent harvest, total supplies for the 2018 marketing year will be more than sufficient to satisfy estimated use of 18.2 million bales.

NCC Acreage Survey
With that review in mind, the projections for the 2019 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 15 and responses were collected through mid-January.  Respondents are asked to give their plantings of cotton, corn, soybeans, wheat, and other crops for 2018 and intended acreage for 2019. 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.

Pre-Planting Market Signals
During the first half of the 2018 marketing year, the December 2019 futures contract was trading in the 76-78 cent range and some producers were able to lock-in higher prices for a portion of their expected 2019 crop. From December 21 to early February, prices have been locked in the 73-74 cent range. Despite the recent drop in prices, current prices are only slightly lower than a year ago. At this time last year, the December 2018 contract was trading in the 74-75 cent range.

Corn prices declined throughout most of the 2018 marketing year but have been improving in recent months. As of early February, the December 2019 contract was trading at $4.02 per bushel, which is 12 cents/bu. higher than a year ago. Soybean futures prices have declined relative to last year. By early February, the November 2019 contract traded at $9.59 per bushel, which is 42 cents lower than a year earlier.

Relative to average futures prices in the first quarter of 2018, average soybean prices during the 2019 survey period were down by 3.5%, corn prices were trading about 4.4% higher, and cotton prices were trading 0.3% higher. The cotton-to-corn price ratio is lower than in 2018 due to higher corn prices as compared to last year. The cotton-to-soybean price ratio is higher than in 2018 due to lower soybean prices. 

It is important to call attention to the ratios because 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. An increase in the price ratio generally indicates an increase in cotton acreage.

For the 2019 crop year, many producers have indicated a desire to reduce soybean acreage due to low returns in 2018. As a result, corn is expected to provide some competition for cotton and soybean acres in 2019. A review of the Council’s survey will begin with a look at the Southeast.

U.S. Drought Monitor
As we approach the 2019 planting season, soil moisture levels are dramatically different than in 2017.

2019 Southeast Acreage
In the Southeast, survey results indicate a 2.6% decrease in the region’s upland area to 2.8 million acres. All states except North Carolina and Virginia show a decline in acreage. In Alabama, the survey responses indicate a slight decrease (-0.6%) in cotton acreage as well as a reduction in corn, wheat, soybeans, and ‘other crops’. In Florida, respondents indicated less cotton and ‘other crops’, likely peanuts. In Georgia, cotton acreage is expected to decline by 3.6%. Georgia growers expect to plant more corn and ‘other crops’, likely peanuts. In North Carolina, a 0.1% increase in cotton acreage is expected. Acreage of corn and ‘other crops’ is expected to increase in North Carolina, while soybean and wheat acreage is expected to decline.  In South Carolina, acreage is expected to decline by 5.4%. South Carolina growers expect to plant more corn and soybeans and less acreage of ‘other crops’. Cotton acreage is expected to increase by 3.5% in Virginia. Virginia growers intend to plant less soybeans and ‘other crops’.

2019 Mid-South Acreage
In the Mid-South, growers have demonstrated their ability to adjust acreage based on market signals. The relative prices and potential returns of competing crops play a significant role in cotton acreage. Mid-South growers intend to plant 2.3 million acres, an increase of 13.6% from the previous year. Survey results suggest that the increase in cotton acres can be attributed to a shift away from soybeans.

Across the region, all states intend to increase cotton acreage. Arkansas producers intend to plant 14.4% more cotton acreage and reduce soybeans and ‘other crops’.  Arkansas growers expect to increase corn acreage as well. The largest percentage increase was reported by Louisiana producers who expect to plant 22.2% more acreage in 2019. Louisiana growers expect to plant less corn and soybeans and more ‘other crops’. In Mississippi, respondents expect to plant 18.4% more cotton. Mississippi respondents expect to increase corn acreage and reduce soybeans and ‘other crops’. Missouri growers expect to increase cotton acres by 6.9% and plant less soybeans. In Tennessee, cotton acreage is expected to increase by 5.9% as land shifts away from soybeans and wheat. Tennessee growers also intend to plant more corn in 2019. All states in the Mid-South intend to plant less soybeans in 2019. All Mid-South states except Louisiana expect to increase corn acreage in 2019.

2019 Southwest Acreage
Growers in the Southwest intend to plant 8.8 million acres of cotton, an increase of 2.2%. Increases in cotton area are expected in all three states. In Kansas, producers intend to plant 3.4% more cotton acres in 2019. Kansas growers intend to plant more wheat and less ‘other crops’, likely sorghum. In Oklahoma, a 1.0% increase in cotton acreage is expected. Overall, Texas acreage is expected to increase by 2.3%. In south Texas, respondents indicate a 1.9% increase in cotton acreage. South Texas growers intend to plant less corn, wheat, and soybeans. Respondents from the Blacklands indicate a decrease of 10.8% in cotton acreage, a decrease in corn acreage, and an increase in ‘other crops’. In West Texas, respondents indicated a 2.9% increase in cotton acreage and an increase in ‘other crops’.

2019 West Acreage
With intentions of 286 thousand acres, producers in the West expect to plant 2.9% more acres of upland cotton. Cotton acreage is expected to increase in Arizona and California and decrease in New Mexico. The survey results for Arizona suggest a 1.0% increase in upland cotton acres and a decrease in all other crops. In California, growers intend to plant 14.4% more upland cotton acres and more ELS cotton and wheat. Summing across the 4 regions gives intended 2019 upland cotton area of 14.2 million acres, 2.8% above 2018.

2019 ELS Acreage
The survey indicates that growers intend to plant slightly more ELS cotton in 2019. California growers expect to plant 9.7% more ELS cotton, while Arizona growers expect to plant 19.9% less ELS cotton. New Mexico and Texas growers expect to reduce ELS acreage by 1.4% and 10.0%, respectively. Overall, U.S. cotton growers intend to plant 264 thousand ELS acres in 2019.

2019 U.S. Cotton Acreage
Summing together the upland and ELS cotton intentions shows U.S. all-cotton plantings in 2019 of 14.5 million acres, 2.9% higher than in 2018.

Based on the current prices of cotton and cottonseed, total revenue is expected to fall short of total costs. Production costs remain high and prices are not high enough to cover all production expenses for many producers. While the Market Facilitation Program (MFP) will provide some compensation to producers for the reduction in prices due to trade disruptions, additional disaster assistance is needed to help Southeast growers recover from the hurricane losses. The 2018 crop year has been a very challenging year for many growers across the Cotton Belt. 

Despite these challenges, cotton is still the better alternative for many growers. Based on current prices, projected cotton returns are currently more favorable than some competing commodities. Improved seed varieties continue to increase yield potential and improve the profitability of cotton.  In the West, expected water availability may be influencing cotton acreage decisions.

2019 U.S. Cotton Production
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, due to the rainfall in the latter part of 2018 and continuing into early 2019, most regions currently have adequate moisture so the abandonment rates for Texas and Oklahoma are assumed to be slightly lower than the recent 5-year average. Also, it is important to remember the volatility around projected production given the uncertainty of weather patterns.

With average abandonment for the U.S. estimated at 10.1%, Cotton Belt harvested area totals 13.0 million acres. Using an average 2019 U.S. yield of 840 generates a cotton crop of 22.7 million bales, with 21.9 million bales of upland and 782 thousand bales of ELS.

U.S. Cottonseed Production
In the February report, USDA is projecting 2018 cottonseed production of 5.8 million tons. For 2019, production is estimated at 7 million tons, which is the highest level since the 2006 crop year. With crush levels expected to remain stable at 1.8 to 1.9 million tons, remaining stocks will need to move into the feed and export markets.

Net Domestic Fiber Consumption
Net domestic consumption is a measure of the size of the US retail market.  It measures both cotton spun in the US and cotton consumed through textile imports. For 2018, net domestic consumption is estimated to be 18.3 million bale equivalents. For 2019, consumption is expected to increase to 18.7 million bales.

Cotton Product Imports to U.S. Market
These charts show how the share of imports from each country or region has changed in the last 10 years. China’s share has remained stable while Bangladesh, India, and Vietnam have been the growth markets. One-third of their gain in market share has come at the expense of the Western Hemisphere while the remaining 2/3 is from all other countries.

U.S. Mill Use
NCC projects domestic mill use of cotton at 3.25 million bales for the 2019 marketing year, slightly above the 2018 estimate of 3.2 million bales. As the single largest user of U.S. cotton, U.S. mills continue to be critically important to the health of the cotton industry.  In the face of rising textile imports from Asian suppliers, the U.S. textile industry has focused on new investment and technology adoption in order to remain competitive.

U.S. Exports
World trade is projected to be higher in the 2018 marketing year, but the trade dispute and increased competition from other major exporting countries has led to a decline in the U.S. market share. Despite the decline, the U.S. will remain the largest exporter of cotton in 2018.

Prior to the implementation of tariffs, the U.S. was in a prime position to capitalize on the increase in Chinese cotton imports. In the absence of retaliatory tariffs, China was expected to purchase about 3.0 million bales of U.S. cotton in the 2018 marketing year as a result of increased demand for cotton, declining stockpiles, and larger gap between China’s domestic production and consumption.

With the imposition of the 25.0% tariff, China has turned to other suppliers during the 2018 marketing year. The U.S.-China trade dispute has allowed Brazil, Australia, and other countries to gain market share. For the past decade, China has imported 80.0% of raw cotton from four countries -- the United States, Australia, Brazil, and India. Over the years, the market share for these countries has changed, particularly as China has imported less cotton from India and more from Australia, Brazil, and the United States. For China, cotton imports from Australia, Brazil, and the U.S. are comparable since the cotton is machine-picked and of higher quality. In the last two marketing years, the average market share of Chinese imports for the U.S., Australia, and Brazil was 45.3%, 20.5%, and 5.3%, respectively.

Based on the latest import data for the 2018 marketing year (August-December), the share of Chinese imports for the U.S., Australia, and Brazil is 12.2%, 40.0%, and 20.6%, respectively. Due to seasonality, Australia and Brazil generally have a higher market share of Chinese imports at this point in the marketing year. However, the data clearly indicates an increase in market share for Australia and Brazil and a decrease for the United States.

U.S. exports are projected to reach 15 million bales in the 2018 marketing year. Despite reduced sales to two of our largest customers during the first half of the marketing year, the sales pace increased in December, with higher reported sales to India, Turkey, and Pakistan.

In the last few months, the Turkish economy has stabilized following the crash of the Turkish Lira in the first half of 2018. Turkish mills have been slowly reentering the market. For the 2010-2017 marketing years, 13.0% of the U.S. export volume was shipped to Turkey. Based on the latest export report as of December 20, 2018, export commitments to Turkey represent 4% of total export commitments. Sales reached the highest level in the marketing year during the week ending December 20. Due to the government shutdown, the most recent export reports are not currently available, but industry feedback suggests a continuation of the strong sales pace in December and January. For 2019, the level of US exports is projected to increase as China is expected to import more cotton.

China Balance Sheet
Assuming a resolution to the U.S.-China trade dispute, China is expected to increase mill use in 2019 to 41.4 million bales. While an increase in Chinese mill use is expected, continued growth in cotton demand is still impacted by competition from lower priced manmade fibers. While the recent focus on plastic pollution across the world has had a negative impact on the production and use of manmade fiber, polyester prices are expected to decline in 2019 due to lower oil prices.

With a further reduction in stocks for the 2018 crop year, China’s imports are expected to increase in the 2019 crop year to 11.1 million bales. With a resolution to the U.S.-China trade dispute, the U.S. is expected to export more cotton to China in the 2019 marketing year and gain back some market share. Chinese stocks are projected to fall to 28.2 million bales in 2019. If realized, stocks would be down almost 40.0 million bales from the 2014 peak.

The gap between China’s cotton consumption and production is currently around 13 million bales. From 2015-2018, the gap was filled with reserve sales and a small level of imports. In the last four years, China reduced their total ending stocks from 66.4 million bales in the 2015 marketing year to an estimated 31.2 million bales in the 2018 marketing year, which is now considered to be approaching a normal or maintainable level.

China’s ending stocks include state reserve stocks and free stocks. From 2012 to 2017, the majority of total ending stocks were state-owned reserve stocks. Based on recent USDA estimates, current state reserve stocks are about 13 million bales and are projected to decline further by the end of the 2018/19 crop year. However, free stocks are currently much higher than in recent years and are estimated to be between 18 and 20 million bales. Based on recent statements from Chinese government officials, the state reserve level may be maintained at about 11.5 million bales. Due to the high level of free stocks, it is unclear if China will import more cotton to fill the reserves in the 2018 crop year.  For the 2018 crop year, China is expected to import 7.5 million bales, which is 1.8 million bales higher than in 2017.

Looking ahead, production is expected to remain relatively stable in the 26-28 million bale range.

U.S. Balance Sheet
As a result of increased Chinese imports, the US is projected to export 17.4 million bales in 2019.

If realized, it would represent the 2nd highest level of U.S. exports, second only to the 2005 marketing year. When combined with mill use, total offtake falls short of expected production and ending stocks are projected at 6.1 million bales.  In absolute terms, stocks would be the highest since the end of the 2008 marketing year.

World Production
World cotton production declined in 2018 to an estimated 118.4 million bales due to lower acreage and yields. The U.S. was not the only country plagued by weather and pest issues in 2018. As compared to 2017, India’s crop is expected to be 2.0 million bales lower. Australia harvested 43.4% less acreage in 2018 due to severe drought conditions, resulting in a 2.2 million bale reduction as compared to 2017. Pakistan’s production is projected to be 950 thousand bales lower than the previous year. The 19.1% increase in Brazil’s cotton acreage in 2018 did offset some of the production losses experienced in other countries. Brazil is expected to produce a record 11.0 million bales, which is 1.8 million bales higher than 2017. For 2019, production is expected to increase in most major cotton producing countries.  World production is estimated at 125.5 million bales.

World Consumption
World consumption is expected to be 123.6 million bales in the 2018 marketing year. Estimates have been revised downward due to the ongoing trade dispute as well as a slowdown in the Chinese and world economies. For 2019, consumption is expected to increase to 126.5 million bales. 

World Balance Sheet
World consumption is expected to exceed production by 5.1 million bales in the 2018 marketing year. Ending stocks are projected to fall to 75.5 million bales. Stocks outside of China are projected to increase to a record 46 million bales. World production is estimated to increase by 7 million bales in 2019 to 125.5 million bales, which would be the highest level since the 2011 crop. World consumption is projected to increase to 126.5 million bales in 2019. Ending stocks are projected to decline to 74.2 million bales. Stocks outside of China are projected to increase to a record 46 million bales.

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. Cotton prices have maintained a weaker appearance since August 2018 due to the U.S.-China trade dispute as well as a slowdown in the world economy. Based on the underlying assumptions and resulting cotton balance sheet, the level of stocks outside of China in the 2018 marketing year along with higher projected production in 2019 may contribute to a more bearish tone for cotton prices in the next year. However, the increase in world trade due to higher Chinese imports along with a resolution to the U.S.-China trade dispute could provide some price support.  

Final Thoughts
As with any projections into the future, there are uncertainties and unknowns that can change the outcome. For the coming year, a key factor affecting the U.S. cotton industry is the ongoing U.S.-China trade dispute and the 25% tariff on U.S. cotton imported into China.

China has reduced their reserve stocks and is expected to import more cotton in the 2019 marketing year. A continuation or escalation of the trade tensions will have profound impacts on the U.S. and global balance sheets. The projected growth in China’s mill use would not be expected to materialize and mill use could decline slightly relative to the current marketing year. China’s imports for the 2019 marketing year could be 800 thousand to 1.0 million bales lower than the projected level of 11.1 million bales. Of that reduced total, China would import significantly less cotton from the U.S. and more cotton from other major cotton producing countries. Brazil, in particular, appears poised to gain market share in China at the expense of the United States.

Under a scenario with tariffs remaining in place, the projected expansion in world trade and the opportunity to backfill trade into other markets would allow U.S. exports in the 2019 marketing year to increase from 2018, but not to the extent as expected in the absence of tariffs. U.S. exports for the 2019 marketing year would be expected to be between 16.0 and 16.5 million bales rather than 17.4 million bales. As a result of the smaller expansion in exports, U.S. ending stocks would approach 7.5 million bales. The longer-term imposition of tariffs would also dramatically increase the likelihood of permanent losses in market share in China. Despite the setbacks and short-term challenges that have occurred during this past year, it is important to consider the bigger picture. The global economy continues to expand and the population keeps growing. World cotton consumption is trending upward as market share relative to other fibers has stabilized. World stocks are declining, and world production will eventually have to increase to keep up with consumption.

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