King Cotton Rules Again

By Eric Fox | March 10, 2011 AAA

Cotton prices are soaring to all-time highs due to fears of a tight market. This is having a negative impact on many retailers and other companies that rely on this commodity. Here we'll take a look at the forces that are pushing cotton prices up, and how a few companies are being affected. (For background reading, check out Trading The Soft Commodities Markets.)

IN PICTURES: 5 Tips To Reading The Balance Sheet

Cotton Fundamentals
Futures prices for cotton reached an all-time high of $2.19 per pound for May 2011 delivery on market concerns that supply will fall short of demand in the current year. The United States is the world's largest exporter of cotton, although rising production has little room to satisfy supply concerns. India, which is the second-largest exporter of cotton, recently imposed a ceiling on exports for the period ending September 2011, reducing supplies even further. Bad weather in China, Pakistan and Australia reduced supply as well.

Companies Affected by Cotton Prices
Apparel designer/manufacturer VF Corporation (NYSE:VFC) has reported a significant impact on its business due to the rising price of cotton, which is used to make denim. The company estimates that its total product costs will be up by 7% in 2011; its U.S. jeanswear business will be most affected by this change. VF Corporation estimates that costs in this segment will increase by about 15% in 2011. The U.S. jeanswear business represents 20% of VFC's total revenues.

La-Z-Boy (NYSE:LZB), which manufactures and sells upholstery products, reported that the company absorbed $19 million in higher costs in the current year as a result of higher raw material costs. The company expects this number to be even higher in 2011 due to increased cotton costs used in the company's products. Clothing retailer Abercrombie & Fitch (NYSE:ANF) is expected to experience double-digit cost increases this fall as well, due in part to rising prices for cotton.

Other retailers report little impact from rising cotton. Cabela's (NYSE:CAB), which retails hunting fishing and camping merchandise, believes it can mitigate rising prices through supply chain initiatives and its pricing power. The company also noted that many of its retail units are located in agricultural areas where residents may have higher purchasing power from rising cotton prices.

Some companies may even benefit from rising cotton prices. Intercontinental Exchange (NYSE:ICE), which owns several futures exchanges across the globe, reported a 64% increase in cotton futures volume in 2010. Management indicated that the increase in business was from the company's increased risk management activities.

Playing Cotton With Exchange Traded Notes
Investors who want to play the cotton rally and aren't comfortable with buying futures directly can invest in the iPath Dow Jones-UBS Cotton Total Return Sub-Index Exchange Traded Note (NYSE:BAL). This instrument invests solely in cotton futures and represents a pure play on the commodity. Another ETN to consider is the iPath Dow Jones-UBS Softs Total Return Sub-Index (NYSE:JJS), which invests in coffee, cotton and sugar.

The Bottom Line
Cotton prices are surging to an all-time high based on fears that supply will fall short in 2011. This is pushing up costs for most retailers and other companies that use this commodity as an input into their goods. (They're hard to predict, but commodities cycles provide valuable information for traders. See Cashing In On A Commodities Boom.)

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