White Gold

With the ubiquitous attention on gold's rise it is easy to forget that there are other commodities doing very well. Gold also benefits from an allure that dates from antiquity. Yet when you look at the mundane fact of price and return on investment, it is less compelling. Priced in US dollars, gold's price has increased about 25% from the beginning of the year. This is nice except that when measured in Canadian dollars the rise is less: around 20%.

This was brought home to me when I spoke recently with someone in an industry that depends on cotton. This commodity makes gold look like a value laggard in comparison. While it is particularly volatile right now, it has appreciated about 60% since the beginning of the year, and peaked recently at 100% (all in USD). Not being someone who follows cotton at all, this nonetheless surprised me since I would have at least expected it to get more media attention. Except that the media, like me, can't seem to tear its eyes away from gold.

Although I have no intention of investing in cotton or cotton producers, and it may be in a bit of a bubble right now, it is interesting to look at some of the factors driving it higher. However please keep in mind that my understanding is not deep.

It seems that a large part of the problem is in Asia, especially China, where higher labour costs are causing disruption in the industries where cotton is a major input, such as clothing. As their ability to compete with other countries declines due to higher wages leading to lower margins, manufacturers resort to hording. This may start simply enough, with inventory building up due to slower production, but as supply gets tied up the price rises and leads to more hording. The theory here seem to be that there is a greater return to the manufacturers from holding onto the physical commodity until the price rising even further, and then selling it to other manufacturers, that uses it now in production.

This is not sustainable since unlike gold, cotton is not used as a global hedge against currency depreciation; it is pretty much only valuable as a raw material to make clothing, bedding and other marketable products. When used to speculate, the result is hording:

China’s leaders promise to hunt down and punish hoarders and speculators. According to Andy Rothman of CLSA, a broker, some traders are taking possession of agricultural commodities in the hopes that prices will rise.

It seems that hording is a common feature of Chinese business and is not limited to cotton and other globally-traded commodities. It is happening with perishables such as tomatoes and may also be partly the case with rare-earth metals.

Considering that it takes a warehouse and freight transport to horde and trade a monetarily-significant quantity of cotton, I imagine that ordinary speculators must rely on ETFs and futures contracts. Don't go looking to empty your closets of old clothes to profit from the cotton bubble.