General View on Grains

The CFTC COT report tells a story about the grains that is consistent with my previous ramble about the relative value of grains and energy. Over the past several weeks there has been little change in the positions of the commodity index investors. What has changed is how the markets have accommodated this interest.

As grain markets have moved lower, we see that commercials net bought over 30,000 corn contracts with speculators taking the other side. Similarly in wheat, where commercials and specs have both been short to accommodate the perma-long index positions, the weighting has shifted increasingly to the spec shorts.

By contrast, in energy we see that the commercial sellers have to accommodate both a large index long position and a large speculative long position. Prices have to be very high to induce this scale of selling (hedging) from energy producers. While it may seem obvious that energy companies should be happy to sell $75-85 oil, in fact, there is a lot of pressure from equity analysts and equity investors to minimize energy companies' hedging to the bare minimum ( 6-9 months of capex locked-in at most). Hedging profits are always seen as one-time gains, while hedging losses are criticized as "wrong-way bets."

So, in grains we see trend-followers selling to longer-term "investors," while in energy the trend-followers have piled in, buying at prices that even reluctant hedgers cannot resist. Could the managed-money crowd win on these trades? Sure: Middle East instability, Nigerian unrest, Russian assertiveness, Chinese demand-- all could push oil higher. Record crops, exports from India, a strong USD, and expensive storage-- all could push grains lower. The point is, at these prices, the markets are already pricing in very bullish news for oil and none at all for grains.

Anyway, that analysis is not only why we lost money on the long ethanol/short gasoline trade, but also why we've missed the last 5 cents on the Hard Wheat vs Soft Wheat spreads. As wheat has made new lows, the premium for May MGE reached 37 cents and KC hit about 18 cents. They could go higher. My fear is that when the spec shorts cover, primarily the Soft Wheat CBOT contract, the premiums will get crunched back down by 10-15 cents. We can wait.

On a somewhat different topic, I bought April/sold May Ethanol at 3 cents premium May. My calculation is that it will cost me about 2.4 cents to carry. Those are big ticks ($290/cent/contract) so hopefully I will pocket $174 for my trouble. That would be on a $44,100 investment: 39 basis points for a month, or 4.78 annualized--we'll see how it goes.