As many of you know, I’ve suggested being long the cotton market for a while, now. The recent setup can be seen here http://www.youtube.com/watch?v=qXUynIIiTNk . I suggested this trade on the 26th, knowing that the crop acreage report which can be found here with other USDA Grain Reports came out this morning. I expected a decline in cotton acreage of 10 – 15%. The number came out at 15% fewer acres planted. Clearly, I should have seen a swift rally through the 8230 – 8250 resistance. However, the market’s reaction to this number was to sell off 250+ points…..IMMEDIATELY! The market fell so swiftly that my protective sell stops were elected but, unable to be filled on the way down. Currently, I find myself sitting with a losing trade below my protective stop point in a market I was dead right on. I’m now tied to the screen trying to find a place to take my loss. The point is, “Being right, isn’t always profitable.”
Here is one for the statistical folks out there. It is a very rare combination to have a large speculative long position, which can be checked in the Commitment of Traders Reports in the face of large one day gains in both oil and gold. In fact, it has happened only 4 times. Three out of four occurrences saw the Dollar decline by an average of 2.1% relative to yesterday’s close 72.79. The trough of this decline comes approximately 26 days after the event. Therefore, we can look for a Dollar objective of 71.34 around August 8th.This fits pretty well with the last Dollar trade posted….expecting a test of the 71.00 lows.
The fundamentals f the corn market continue to point towards higher and higher prices. I understand that many people had a hard time forcing themselves to buy new crop corn $6 a bushel. Unfortunately, $7 is here and $7.50 is not far off. The corn market is experiencing a “perfet storm.” The short list of contributing factors are:1) Tight ending stocks leave us very dependent on this year’s crop.2) Increasing global (Asian) demand for red meat funnels more corn to feed.3) Declining Dollar increases global demand for our exports.4) The late start to this year’s crop will have a material effect on yields.5) Growing position of index trader positions in the Commitment of Traders Report.
The following article on Bloomberg goes into more detail without having to source each piece of the puzzle individually. If anyone wants more detail than it provides, please contact me directly.
Corn Deluged by Iowa, Illinois Rain Cuts Yields, Boosts Prices
By Jeff Wilson
Farms in Iowa were drenched with 5.78 inches of rain last month, or 37 percent more than normal, according to :S:d1″>Harry Hillaker, the climatologist for the biggest corn-growing state. The 22.23 inches that fell on Illinois from January through May was 45 percent above normal and the third-wettest on record, according to data compiled by the state.
Corn rose to a record $6.73 a bushel yesterday in Chicago, extending this year’s gain to 44 percent. Yields in the U.S. may fall 10 percent short of government forecasts, the biggest drop in 13 years, and send prices up another 34 percent as storms delay planting, stunt growth and leech fertilizer from the soil, said :S:d1″>Terry Jones, who farms more than 6,000 acres near Williamsburg, Iowa.
“It’s already a disaster,” said :S:d1″>Palle Pedersen, an agronomist at Iowa State University in Ames.
About 60 percent of the crop in the U.S., the world’s largest grower and exporter, was in good or excellent condition as of June 8, down from 63 percent the previous week, the Department of Agriculture said yesterday in a report. A year earlier, 77 percent got the highest rating. Iowa, Illinois, Nebraska, Minnesota and Indiana, the five top-producing states, reported declines.
Check USDA Grain Reports
Rainfall across the Midwest was as much as four times normal over the past 60 days, according to National Weather Service data. In some places, storms dumped 15 inches more than average, the data show. The increase is equal to the typical rainfall some fields receive in a year, said :S:d1″>Roger Elmore, who is also an agronomist at Iowa State.
“The Midwest flooding is widespread and that has already hurt the crop,” delaying development and drowning some immature plants, said Jones, who is vice president of Russell Consulting Group in Panora, Iowa. “We could see national yields fall at least 10 percent, even with normal growing conditions the remainder of the year.”
Spring planting was delayed by rain and unusually cool weather that left fields too muddy for tractors and limited growth. U.S. corn planting was 51 percent completed by May 11, less than 71 percent the previous year, USDA data show.
The yield potential for corn drops unless plants emerge from the ground before the end of May in the Midwest, according to a University of Illinois study. The USDA estimated 78 percent had emerged as of June 1, compared with 92 percent a year earlier. To produce the best yields, corn needs to pollinate before the arrival of summer weather.
$8 a Bushel
“The crop is in serious trouble,” said :S:d1″>Jim Stephens, president of Farmers National Commodities Inc. in Omaha, Nebraska, who helps manage more than 3,600 farms across the Midwest. He said corn will top $8 a bushel this year.
The weather is endangering a U.S. crop already expected by the USDA to decline from last year’s record harvest after farmers planted 8.1 percent fewer acres. Global inventories may fall to the lowest levels in 24 years by Aug. 31, the USDA said.
U.S. farmers shifted to soybeans and wheat because the costs of corn is high relative to other crops. The USDA will update its yield and inventory estimates today in Washington and its estimate of U.S. planted acreage on June 30.
Demand for corn to feed livestock jumped 24 percent in the past decade as economic growth boosted incomes and meat consumption in developing countries. The prices of corn, soybeans, rice and wheat surged to recor
ds this year as food demand outpaced production. In the U.S., the cost of corn was increased by government subsidies and mandates for ethanol.
In the top eight producing states, which grew 75 percent of last year’s crop, there is more acreage at risk than in 1993, when yields plunged 23 percent, said :S:d1″>Chip Flory, editor of the Professional Farmers of American advisory in Cedar Falls, Iowa.
Corn futures for July delivery rose 6.5 cents, or 1 percent, to $6.5725 a bushel yesterday on the Chicago Board of Trade, after touching a record high for a third straight session.
The saturation of soil moisture is in the 98th percentile of the highest levels in the past 40 years from South Dakota to Ohio, according to government data, increasing the risk of reduced yields from the loss of nitrogen fertilizer, Iowa State University’s Elmore said. The saturated soils are depleting fertilizer at a rate of as much as 4 percent a day, he said.
Farmers were expected to produce about 153.9 bushels an acre on average, up from 151.1 bushels last year, the USDA said May 9. Instead, yields probably will drop below 139 bushels and may fall even more, said Jones, the Iowa farmer.
Yesterday, Bernanke stated that a weak Dollar was not in America’s best interest. Typically, this statement would be argued against based on a weak Dollar’s contribution to exports helping to grow a weakened domestic economy. Bernanke’s point, I think, is that inflation is a bigger worry than recession. Dollar based commodities, primarily grains and energy are having a greater negative impact on our economy than can be offset through higher exports. Inflation in these primary goods is acting as a tax on the American consumer. Right now, the economy cannot create enough high quality jobs fast enough to offset the economic pain that is felt at the gas pump and grocery store.Further more, Bernanke also stated that he will work with Secretary Paulson to defend the Dollar’s decline. This is important because the Federal Reserve and the Treasury are separate entities. It is a big deal that Bernanke used language such as, “In collaboration with our colleagues at the Treasury…” as well as, “…ensuring that the Dollar remains a strong and stable currency.”
These are strong words from the chairman of the Federal Reserve. The perfect storm could be brewing……strengthening Dollar combined with regulatory action, via the CFTC closing the “swap loophole” on Commodity Index Traders could bring liquidation across the commodity spectrum. It will be important to check the Commitment of Traders Reports for position changes.
This is from John Mauldin at http://www.frontlinethoughts.comI think he does a wonderful job of explaining how the Commodity Index Funds stay off of the CFTC’s radar in their weekly Commitment of Traders reports.
Swapping out Commodities
The Commodity Futures Trading Commission announced yesterday that they are
looking very hard at possibly closing a regulatory loophole that allowed some
extremely large commodity index funds to get around position limits. For those
not familiar with the concept of limits, it basically works like this. No trader
or fund is allowed to own more than a specific amount of a commodity traded on
the futures exchange. This limit varies from commodity to commodity and exchange
to exchange. The point is to keep one group from manipulating the price of a
commodity, as the Hunts did with silver in the early 80s.
The loophole is one where large investment banks can sell a “swap” for a
specific commodity like corn and then hedge their position in the futures
markets. There is no limit on the amount of the commodity that can be hedged.
So, a fund can accumulate sizeable positions far in excess of what they could do
directly by working with an investment bank. In essence, the swap is a
derivative issued by a bank which acts just like a futures trade, but it is with
the bank as guarantor and not an exchange. Swaps are not regulated as such. And
up until now, the banks were seen as legitimate hedgers so there were no limits
on what they could buy in the futures markets.
This works for very large commodity index funds which try to mirror a
particular commodity index and need to be able to buy very large positions in
excess of the normal limits (and there are scores of them), and for the banks
that make the commissions and profits on the swaps. Remember, the fund gets a
management fee, so growing the size of the fund grows their fees.
These indexes typically have about 26 commodities, with the largest
allocation to oil, but almost anything that is traded has some small portion of
the allocation. As I noted last week, there are some who believe this is working
to drive up the price of commodities beyond the simply supply and demand
principles. Whether or not you believe this to be the case, the CFTC is looking
at the loophole.
The key word in the announcement yesterday was the word “classification.” Their classification can be tracked in the Commitment of Traders Report classified as hedgers and as such have no limits. But
they are not rea lly hedging the actual physical commodity as a farmer or
General Mills might do, but the hedge is their financial position.
High grain and energy costs have finally generated enough momentum for the politicians to get involved. This past week, a paper was presented to Congress by Michael Masters of Masters Capital Management. He attributes the current price levels to creating an artificially high floor price due to the asset class categorization of commodities. The long only money that has poured into the markets is creating, “demand shock from a new category of speculators: institutional investors like
corporate and government pension funds, university endowments, and sovereign
wealth funds. He also, matter of factly states, “Index speculators are the primary cause of the recent price
spikes in commodities.”
One statistic that is being roughly, though widely, quoted, is the assumption that demand for exchange traded commodities over the last five years has increased equally between China and Commodity Index Funds. The CFTC is prepared to overhaul its system of reportable trading categories and players to try and pinpoint who is trading what and how much. The purpose is to differentiate between true physical price discovery and speculative froth.
Congress is prepared to assist the CFTC in outing the institutional speculative money by closing the swaps loophole that has allowed the billion dollar funds to enact futures transactions as swaps through their securities brokers (Merril, Goldman, etc.) who then hedge the swap in the futures market. This is how every individual fund has managed to stay off of the CFTC’s Commitment of Traders reports. The commodities are held assets with their broker while the broker executes the hedge and reports the position as their own.
The CFTC and Congress working hand in hand could bring an end to this bubble far quicker than peace in the Middle East or a bountiful global harvest.
Please, feel free to comment or, question. This is a small picture painted in broad brush strokes.
Have a wonderful weekend, Andy.
As petroleum prices climb, alternative energy sources become more useful. So it is with biodiesel and soybeans. Look at the correlation during yesterday’s sell off and today’s rally.
Now, look at the 25 day correlation chart between the two markets.
The underpinnings of the Crude Oil market do not justify the current market prices.
1) Crude made new all time highs Friday….on declining open interest, which peaked last July.2) Distant delivery for Crude isn’t charging the storage and insurance premiums it should in a healthy bull market.3) Using NYSE prices, oil stocks are pricing it at $75 per barrel. 4) According to Business Week, the major players have done little to increase capital spending….even at these prices.