Inside The Crash In Cotton ETFs [iPath DJ-UBS Cotton Subindex Total Return SM Index ETN, iPath Pure Beta Cotton ETN]

cottonThanks to extreme weather in some parts of the globe and supply disruptions in others, many commodity ETFs have put up solid performances so far this year. Some of the sectors in the space, including oil, precious metals and some base metals, have easily managed to match the 8% return generated by the broad equity markets while some have even outpaced them.

However, the returns have in no way been universal as some commodities have performed quite miserably. Interestingly, the soft commodity space (represented by the ETF (NYSEARCA:DBA) – a group that includes products such as coffee, cocoa, sugar and cotton – has seen pretty varied performance.

Coffee and cocoa have easily managed to beat the returns of the broader equity markets and agricultural commodity ETFs, with coffee being the top performing commodity having delivered a handsome 50% return YTD. In contrast, cotton has been the worst performing commodity this year, while sugar has also not fared well.

Inside the Crash in Cotton ETFs

Cotton prices have recently crashed badly to reach the lowest levels in two years on expectations of a bumper U.S. cotton crop this year. In fact, they have been declining for 11 weeks in a row and are believed to have entered a bear market.

The U.S. Agriculture Department has recently raised its estimate for U.S. production by 10% to 16.5 million bales in the year beginning August 1. This is nearly 3.6 million bales higher from 2013-14 levels. Higher-than-expected production levels have taken a toll on cotton prices which are slumping badly (read: 4 Great Reasons to buy Commodity ETFs Now).

Making matters worse, China, the top importing country, has been steadily reducing its purchases of cotton due to a revision in its farm support regime policy, which has resulted in huge stockpiles.

Moreover, a shift towards alternative fabrics like polyester is leading to a slowdown in cotton demand, which is also putting pressure on prices. Experts believe that demand for cotton can only pick up when its prices fall to the levels of polyester.

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