A Historic Shorting Opportunity in Cotton May Be Near

Recently, MV’s Josh Lipton wrote that, year-to-date, gold is up 16%. The SPDR S&P 500 ETF (SPY), which includes holdings like Exxon Mobil (XOM), Apple (AAPL), Microsoft (MSFT), IBM (IBM), and Bank of America (BAC), is up 5.5%. According to Bloomberg, oil is up 3.8% YTD. Copper, 13.9%.

He also pointed out that cotton is up 62%.

Jon Markman of Markman Capital Insight provided a chart that compared the price of cotton as tracked by the exchange traded note iPath Cotton (BAL), contrasted with gold and the S&P 500 this year.



Shawn Hackett, founder and president of Hackett Financial Advisors, a money-management firm with a focus on agricultural commodities, tells Minyanville that cotton’s spike began with the floods in Pakistan, coupled with rising demand from China.

But, contrary to what numerous breathless reports warning of $85 undershirts and $50 socks, Hackett believes cotton’s stratospheric rise is due for a fall. In a letter to clients sent out yesterday, Hackett wrote:
 

Cotton prices have had a tendency to put its bull market peaks in right near the 30 year cycle peaks in overall commodities. So with the expectation that a major 30 cycle peak is near at hand in overall commodities over the next 6 months, cotton could be in the process of setting at least a decade high as we speak in the very near future.

The average increase during the 3 greatest bull markets in the history of cotton since 1900 was a 4.1-fold rise. The current rise in cotton has reached a 4.1 fold increase since the bull market began in November of 2008 putting cotton in lock step with historical precedent. Understand that this bull market has seen the greatest velocity increase over the shortest period time over the last 100 years. This puts the cotton market into a very rare psychological condition that is usually associated with a crash ending. The average decline in cotton over the last 3 greatest bull market moves has been 50%. Given the extreme nature of the current bull market, I would expect the decline to exceed the normal decline.

The reason?
 

End users of cotton/merchants are buying in a panic parabolic fashion that is a classic late stage warning sign that a bull market is about to come apart at the seams,” Hackett wrote. “Once the commercials finish their panic buying spree, a buyers strike will likely emerge leaving cotton in an air pocket of no support for many days on end. This is what causes the crash back down as greedy producers try to capture what is left of the riches they thought they had while rational commercials have no interest at buying at irrationally higher levels. Also during such times it is typical for cash contracts to be cancelled and renegotiated at lower levels creating even further selling that exacerbates the selling panic. That day is coming in cotton.