The View from 30,000 Feet

The USA grows much more wheat than it consumes, so exchange rates impact exports and prices very directly. So while it is fun and interesting to contemplate storage fees and protein content and projected flooding in North Dakota, sometimes wheat traders have to think about boring old foreign exchange as well. There has been a lot of interest in whether the Treasury Dept should declare that the Chinese manipulate the RMB in their April 15 report. I have to wonder what has changed since last year: all the same political players at Treasury and the Fed, the same elected officials, the same lousy economy, the same fiscal and trade imbalances. Why now? And does it make a difference to Minneapolis wheat?

The "why now?" could have a variety of answers all rooted in the principle that things that can't go on forever, don't. It seems largely unpredictable to me at this stage. But it would matter. As I have noted in previous posts, there is no bullish news in the wheat market at present--a market which requires a large structural short position from money managers to accommodate commodity index longs at these price levels. Any significant drop in the USD would be very bullish for US wheat exports. In addition to tightening the physical wheat market, the likely jump in commodity indexes accompanying a lower dollar would attract more investors to those indexes. So we would have a situation where there would be higher demand for physicals, higher demand from "investors," and likely short covering from trend-following money managers. Yikes.

Anyway, a sharply lower dollar could create a scenario markedly different from the over-supplied market we have now. Bear in mind, though, we do have an over-supplied market now. As the market rallied 2% today, with the CBOT leading the way, compressing the MGE and KC premiums, I added to our long May KC/ short CBOT position at about 7 cents premium for KC.

In the calendar spreads, where we have been positioned for steeper contangos on the CBOT, we went the other way on KC Sep10/Dec10. At 17.5 cents, that spread is wider than the cost of storage (KC has the cheapest storage at 4.5 cents/bushel/month) by 4 cents. This allows a bit of return on capital even after paying a penny each way to take delivery and re-tender. Using the CBOT method of calculation (200 bp over LIBOR for financing), the KC Sep/Dec is trading at about 105% of full carry.