Electing an Energy Policy

The general consensus is that economic disparity and prosperity or, lack thereof will be the primary focus of this year’s elections. The primary components of these discussions will be gas prices, unemployment and the federal deficit, which includes the entitlement programs and taxes. We will take a brief look at each of these over the next few weeks as we run through the primaries and the 2012 election begins to take shape.

Job programs, tax breaks and legislation do not have the immediate impact or direct effect financially or psychologically as gas prices. The unrest in Iran due to their pursuit of nuclear technology has caused the price of crude oil to rise more than 11% in the last month. The national average for gasoline has risen by nearly 13% over the last year and now stands at $3.56. The real issue here is that we’ve yet to approach the peak driving time of Memorial Day weekend. At these prices, the average historical seasonal increase around 12% could tack on more than $.40 per gallon pushing the national average to $4. This would make filling up the tank a $70 proposition for many drivers and push the average monthly outlay towards $200 per month.

Much of this spike is due to European Union economic sanctions on Iran. These actions were fully supported by the United States while Russia and China were the only dissenters among the E.U. Security Council vote. Iran’s retaliatory response was to halt shipments of oil to France and Britain. This is akin to a child’s toy being taken away with the child’s response being, “I didn’t want that toy anyway.” The sanctions prohibit financial dealings with Iranian banks making it impossible to broker a deal for shipments of oil in the first place. The geopolitics of the event solidifies Eastern European and Asian alliances for the world’s fourth largest producer. Oil revenues account for 50% of Iran’s GDP. Therefore, they must find a market for their oil or face a domestic political nightmare.

Here in the U.S. the President is going to have to face some tough choices. High gas prices impart a very real feeling of inflation on the vast majority of the voting public. Even people not directly affected by higher gas prices will cringe when filling up. Meanwhile, the rest of us will be forced to alter our plans to accommodate rising expenses.

The tangible impact of this will bring energy policy to the forefront of the primary debates among his challengers. Thus far, President Obama has been reluctant to spur domestic fossil fuel production and infrastructure improvement. This stance is clearly reflected in his unwillingness to open domestic drilling in Alaska and the Gulf and further reinforced by his unwillingness to support reversing the Keystone pipeline. Lastly, will he choose to tap the strategic reserves as he did last June? This will dampen gas prices in the near term but what will replacing that oil on the open market cost in the future?

The United States is moving towards the path to energy self-sufficiency. It has been 20 years since the U.S. has consumed as much domestic energy as we did in 2011. This proves that we are on the right path and that’s a good thing as developing countries like China and India begin to hoard oil to create their own strategic reserves which will continue to bite into global supply well into the next Presidential cycle. Therefore, Republican challengers must be able show that their plans to spur domestic production will be done in a taxable and environmentally conscious manner.

This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.

Nasdaq – Only Fools Rush In

Commercial traders tend to be negative feedback traders. Their large account sizes and ability to deliver the physical product allows them to absorb market swings that an individual trader would not be willing to sit through. The commitment of traders report identifies large speculators as trend following CTA’s and commodity index traders. CTA’s are the individual money managers within the futures industry and commodity index traders are like the mutual fund managers. These three types of traders account for most of the volume with small speculators, individuals who trade their own accounts filling out the balance. The purpose of these definitions is to illustrate the battle lines that the markets draw at major turning points.

Speculative traders whether large or small tend to increase the size of their positions as the markets move their way and their account values increase giving them more cash to work with. Commodity index traders are forced to maintain certain allocations, which also forces them to buy more as the markets climb and sell off those very same positions as the markets decline. There is currently an historic battle shaping up in the stock index futures as these market players duke it out.

This past week, non-commercial traders, the large speculators set a new all time net long record in the Nasdaq futures. Interestingly, neither the Dow nor the S&P 500 are anywhere near their speculative highs. Clearly, tech has been leading the way.

The Nasdaq position makes sense in the behavioral pattern we’ve laid out. It has been the strongest of the three major stock indices and rightfully has attracted the greatest amount of capital. Unfortunately, the size of the position being bought above the July highs around 2450 leads to a weak handed, top-heavy market.

There are several clues pointing to the end of this rally, starting with the most obvious, the golden cross. This happens when the 50-day moving average crosses above the 200 day moving average. This happened in the S&P 500 for the 26th time since 1962 two weeks ago and also applies to the Nasdaq discussion. CNBC ran this story incessantly. The statistics behind it show that of the 26 crosses, the market is higher six months later 81% of the time. Great stat and I’d like to believe that six months from now the market will be higher. However, I think the publicity was just enough to suck in the blind faith investors as evidenced by the large spike in small speculator long positions.

Deeper investigation shows that commercial traders are also raising their stakes in markets that move opposite the stock market. They have been moving money into the U.S. Dollar. The Dollar tends to rally as investors pull money out of the stock market and move to the safety of cash. Over the last three weeks, they’ve nearly doubled their position switching from net short to now, long the Dollar. Commercial traders have also continued to pour money into the 10-year Treasury Note futures. In fact, they have increased their position in this market every week since December 12th. This is also a defensive play against the stock market.

Finally, I’ll turn to the end of the, “January Effect.” This is the period from late December through the middle of January that is the strongest period for the Nasdaq. Historically, this was due to year-end bonuses being paid out and finding their way into the market via retirement or direct investing by the bonus recipients. Unfortunately, the fundamentals have changed and this is no longer a direct cause and effect relationship. The end of the January Effect is rapidly approaching. Moore Research, a seasonal analytics firm confirms the, “January Effect” but also notes that the seasonal trough is typically made between February and March.

I expect the market’s low volatility to provide us with a low risk opportunity to enter some short positions in line with commercial traders and catch the fall as the latecomers are forced to bail. The Nasdaq should come back and test the 200-day moving average around 2300, more than 10% below our current levels.

 

This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.

Stabilization in the Cocoa Market

The cocoa market spent much of 2011 struggling with leadership issues in the Ivory Coast, which is responsible for approximately 35% of the world’s production. The political turmoil forced end line users to guarantee their supply regardless of the price so the stores would stay full of M&M’s and Hershey bars. Opposite the political instability was a bounty of Mother Nature’s 2011 production, which was the highest on record. This led to the largest carry over stocks on record as well as end line users hoarding their purchases to protect their production supply. The resolution of the Ivory Coast’s political issues sent the market tumbling by more than a third in the 4th quarter as the market’s attention shifted to the excess supply.

The political shift in the Ivory Coast from dictator to a freely elected President with the full support of the United Nations is opening up the gates of First World farming technology as well as foreign direct investment. This combination will increase Ivorian cocoa yields dramatically as their farmers adopt new technology to replace the decades old traditional farming methods that have decreased their production to less than 40% of what some experts believe is their optimum level.

We’ve reviewed the turbulent past and pointed a finger towards a more productive future but we trade in the present. The present in the Ivory Coast is a state of flux. There are great hopes in the new democracy for farming reforms that will increase the standard of living for more than 700,000 cocoa farmers. The outside world is also placing a great deal of pressure on the new government to adopt certain price controls to stabilize prices at the ports. Meanwhile, the crop that is currently coming to harvest is caught somewhere in the middle of weather uncertainty.

Weather concerns early this year have impacted the crop substantially. Many are suggesting that last year’s excess production will be quickly consumed as this crop is expected to be at least 10% less than last year’s. Furthermore, western agronomy practices and foreign investment have not yet had time to take hold and mitigate the damage caused by a late la nina dry season. Finally, the new government is still finding its footing in implementing its reforms. The recent implementation of a daily cocoa auction system is the latest result of the government’s disjointed approach to their chief export. The auctions are supposed to feature daily sales of cocoa at the ports to establish a fixed price that includes transportation from the field to the port. The producers were unhappy with the floor prices and therefore boycotted the auction leaving the government organizers to entertain the corporate buyers for the afternoon at the auction site.

This recent exportation hiccup along with the diminishing size of this year’s crop has provided enough concern to get the market up about 5% off of the January lows. The consolidation pattern that’s been forming over the last three weeks may prove to be the key to the near term direction of this market. A move back above $2,350 per ton would most likely force a large speculative short position to begin taking profits. This buying could provide significant fuel to the emerging rally, as the speculative short position is one of the largest on record in this market.

The Ivory Coast is developing a modern government and agricultural infrastructure very rapidly. This process will help ensure consistent, high quality supply in the same way that the U.S. provides so much of the world’s grains. Therefore, a rally through the end of the 2nd quarter may be the final hurrah for one of the most volatile commodity markets.

This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.

Strong as a Bull

The cattle market is a very inelastic market due to the breeding characteristics that control supply. The gestation period for cattle is approximately 40 weeks. Obviously, cows can be brought to market or, held back for breeding. This results in a cattle farmers deciding whether the current market price justifies the instant gratification of cashing out and bringing cattle to market or holding them back for breeding to satisfy future demand. Last year, the cattle market set an all time high just over $131. I believe we will breach that level to set new highs again in 2012.

Last year’s all time highs were based on growing global demand and this year shows little in the way of slowing down. Normally, the solid global foundation of growing demand would see breeding herds built up to satisfy the coming years’ needs. However, last year’s drought in the major cattle producing regions of the southern plains forced farmers to bring cattle to market and feedlots as grazing land evaporated and feed prices skyrocketed. The result was a decline in U.S. herd sizes in the face of growing demand. This sets the stage for even higher live cattle prices in 2012.

Meat has been measured in per capita supply as long as the USDA has been reporting numbers. This year, it’s expected to be just over 54 pounds. This is down 10% from two years ago and it’s quite possible that we end up at our lowest rate in over 50 years. It took some digging as the USDA data only goes back to 1971 but the next historical level of 54 .5 set in 1953, ties right in with the USDA’s expectations. More details include a breeding herd that has declined in size in 13 out of the last 15 years as well as increasing global demand due to trade agreements with South Korea, Columbia and Panama. Finally, there is growing speculation that Japan will end their embargo on U.S. beef, which has been in place since the 2006 mad cow development.

There are two wild cards that may affect demand this year. The first is a global slowdown in the overall economy. The newfound taste for U.S. beef in developing markets is still in its infancy. Therefore, if their purchasing power declines, locally sourced beef substitutes are still readily available. The second issue is the development of the European bailout. If Greece decides to leave the European Union and revert to the Drachma we will see a flood of money into the U.S. Dollar. This would create a huge pricing issue as U.S. beef would suddenly become very expensive on the open market and may provide the justification for ranchers to pull their animals off of feedlots and place them back into the breeding population.

This leads us to, “How high is high?” April live cattle futures are currently trading around $128.50 while the June contract is trading at a $.60 discount. The April contract appears ready to take out the October and November highs just shy of $130. This would provide a technical trigger of an inverted head and shoulders pattern, which provides us with a measured objective around $136. This also ties in well with fundamental analysis by the Hightower Report, which expects a high around $135. Finally, Jim Hilker’s statistical analysis as head of Michigan State’s Department of Agricultural Economics projects a high end just shy of $137. In the face of the news driven markets we’ve been forced to trade, it’s nice to return to the old fashioned simplicity of the laws of supply and demand.

This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.