I was asked this question the other day:
“There are two cotton prices. One is the world market and the other is Cotton #2. The world market is about 0.1 higher than Cotton #2. What is the difference in the two? And why can’t farmers trade off the World price?”
So, why can’t you?
To answer, delivery points are the main difference in the two contracts.
Cotton #2 is only US cotton, while World Cotton can be delivered to any of the Deliverable Origins listed here.
I thought the price difference might have to do with available delivery points – but I looked it up and both allow delivery in Dallas.
So logistically, West Texas cotton producers could deliver to either contract in Dallas.
Large cotton buyers should be able to quote prices off either contract, but it may be an issue of newness and volume.
For instance, the highest volume Cotton #2 contract traded 21,476 contracts the other day.
…And the highest volume World Cotton contract traded 35 contracts that same day.
It may be buyers simply saying: “I can’t hedge and trade off of a contract that nobody else is using.”
I would think prices would eventually converge as people become more experienced with the new contract (and volume increases).
Of course, for 10 cents/lb. – you could always deliver the cotton yourself – maybe it’s worth it at that price.
Be aware, there are discounts depending on delivery points though.
I asked the same question to Senior Broker John Payne, of Daniels Trading.
He had this to say:
“Volume is probably the most direct answer. Guys wont hedge if they can’t get in or out of the contract in a liquid market. That’s a chicken/egg problem though, if the economics made sense guys would probably do it.”