Since March 2020, cotton futures prices have climbed from below 50 cents per pound to north of 95 cents. The current outlook for cotton prices remains bullish; however, prices are currently above the 90th percentile (89.02 cents; Figure 1) of the historic price range going back to January 2000. Cotton producers may want to consider removing some additional price risk – depending on production costs, current price protection levels, and year-to-date sales. Over 83% (15.5 million bales) of 2021 US cotton production is projected, by USDA, to be exported. As such, prices will be reactive to events overseas that can be unpredictable but potentially have dramatic ramifications domestically (for example, recent events with Evergrande). To manage price risk, producers have a vast array of marketing tools — cash sales, futures, options, forward contracts, marketing pools, and the USDA Loan Program. The effectiveness of the marketing tools will vary based on current market conditions.
In addition to price risk, there is still substantial production risk for many US producers, which needs to be considered when factoring how much production to price and the marketing tool utilized to mitigate risk. One marketing tool that producers may want to consider is buying December or March put options to set a futures price floor. Using put options allows producers to participate in upward movements in cotton futures while establishing a price floor on the protected production. Additionally, put options define the potential loss (the amount of the put premium), do not have margin calls, and do not require the physical delivery of cotton. For example, on September 13, 2021, a December 2021 put option with a 94-cent strike price could be purchased for 4.63 cents to establish an 89.37 cent futures price floor or a March put option with a 93-cent strike price could be purchased for 6.69 cents to establish an 86.31 futures floor (always check futures and options markets for updated premiums for different strike prices). Both options would secure a futures price above the 85th percentile of the historic price range in Figure 1. More complex option strategies can be considered to offset premium cost. Producers need to understand the risks and rewards for all strategies so working with a qualified professional is recommended. Current prices will result in profitable outcomes for many cotton producers; as such removing some price risk or protecting against the downside should be strongly considered.
Figure 1. Monthly Nearby Cotton Futures Prices, January 2000 to August 2021
Smith, Aaron. “Cotton Prices are Above the 90th Percentile of the Historic Range.” Southern Ag Today 1(42.1). October 11, 2021. Permalink
