SMall Trades for the Shorter Term?

On the long wheat/short corn trade I put on yesterday, the idea was to scale into a position as wheat traded down from 1.25X corn toward 1.2X corn. When wheat traded up today, I took the 8 cents and got out. I will still look to buy the wheat when it gets cheaper.

Small Trades for the Longer Term

Today I put on a few positions that I think will work out over weeks or months rather than days:
Long March Oats, short Corn.
Long March Wheat, short Corn.
Long March MGEX Wheat, short KC Wheat.

In the first two cases, we are above rock-bottom levels where feedlots would substitute for corn, but not by more than maybe 10%. Certainly there is at least twice that room on the upside.

In the second case, we see a similar set-up; there may be 15-25 cents of downside, but MGEX could easily be 50-70 cents over KC instead of the current 14-15.

The risk to all the above trades is a rampant bull market that attracts more speculation to corn and KC wheat than the less liquid oats and MGEX markets. A good offset to that risk would be to scoop up some calendar spreads at close to full carry, so I'll be on the lookout for that going forward.

Exiting Early

I am writing this wrap-up a little early because I have exited my intermarket MGEX/CBOT spreads. With the cash Hard Red Spring wheat trading $1+ over Soft Red Winter wheat, it looks like the March MGEX/CBOT spread has a lot of room to run from the current 65.5-67 cents. So I might be leaving this winning position too early--and I may eventually jump back in to go long the MGEX at even higher levels.

But this spread has had a 25 cent move over the last 10 sessions as the CBOT March contract has dropped a dollar. This kind of move cannot be explained as the impact of the VSR: too much, too fast, and no corresponding calendar spread moves. I don't think we are moving into a bear market with a lot of downside, so I don't want to depend on continued CBOT liquidations to pry the MGEX/CBOT spread to higher numbers. Rather, I fear that speculators will come back into the grains and the MGEX premium will (initially at least) get squeezed.

MGEX Premium Expands

One again CBOT wheat closed within a penny of the previous day, but today MGEX was up a nickel. I don't see any particular reason for it. Calendar spreads didn't move much on the CBOT or the MGEX. Perhaps there was some selling on the CBOT related to weakness in other markets like the S&P500 or corn or crude oil... It's nice to be the beneficiary of random moves, but it's not enough to get me to give up my long MGEX/ short CBOT position.

Another Good Day for ....Long Term Research

The wheat futures spent the day within about a nickel of unchenged for most of the day and intermarket and calendar spreads only shifted a penny or two.

So I begin to creep back into my usual long MGEX/ Short CBOT stance.

As wheat trades toward the low end of the range since the summer Russian drought, and corn is at the lowest levels since we found out yields would be lower than expected, I am looking for longer term bull market trades. Ideally that would be putting on a calendar spread around full carry just before the next harvest. I don't see that, but KC May10/July10 with a 6 cent discount for May (about 50% of full carry) doesn't look too bad as a bull market option. While wheat inventories aren't as tight as corn, you would have to pay over 20 cents premium for Sep10 corn over Dec10. If the grain markets soften, there is only a 6 cent downside on the wheat spread, but about 35-40 cents at risk on the corn trade.

Nick H., Fixed the Link!

Ethanol subsidy story link here.

I don't see where the study cited by DTN looks at competition from refined sugar markets. Interestingly, the study seems to pencil in the same "ethanol crush" margin in both subsidized and non-subsidized scenarios.

Animated Recap

Click here for animated recap.

Higher Quality Posts Must Be Just Around the Corner

I don't want this site to degenerate into daily market recaps. I have generally been long MGEX vs CBOT for some time and the daily moves are important because I would really like to make some money on them. But, generally, I would like to write more about the thinking behind the positions. In this most recent case I have been positioned in line with my belief that the high penalty rates for holding CBOT wheat (shipping certificates) will force the CBOT to a large discount to MGEX as delivery approaches.

This theory has generated excellent results except for the huge debacle that was the spike in wheat prices over the summer. (Other than that Mrs Lincoln, how was the play?) So to defend against that, I have tried to be more nimble and I have added significant "tail hedges."

At the moment, I have gone flat on the intermarket spreads. That's the nimble part. I believe that March MGEX will tend toward the 75 cent premium to CBOT we see now in December, but as the wheat futures bounce back up after a 15%+ sell-off, the MGEX premium may contract in the short-term.

One calendar spread I have on is long Dec10/ short March11 KC wheat. The MGEX and CBOT Dec/Mar spreads are both inside the cost of carrying the certificates, so I think there could be a late move in the KC spread toward 13 cents.

Trying Not to Overstay My Welcome

Wheat dropped along with other commodities today and the premium for March MGEX stretched to new highs. While I expect March MGEX/CBOT may eventually get as high as the current Dec10 spread (around 75 cents), it may take a while. So I pitched out 70% of my position as the premium expanded past 55 cents. I also squared up against KC.

Once again, the calendar spreads did not indicate a bigger surplus of wheat to store going forward. Instead, the calendar spreads flattened slightly. Once we get past the current QE2 driven volatility, the grain markets look poised for more bullish action eventually.

A Snoozer...

It was an exciting day in corn, or maybe beans, but all the March wheat futures finished within a penny of unchanged.

After liquidating intermarket spreads of oats and ethanol vs corn, I am back looking at those relationships again. Ethanol's backwardation has eased, but remains persistent. Ethanol inventories are still shrinking. There is a lot of uncertainty around legislation to continue the blender credit. Interesting situation which I think has more upside for ethanol than downside.

Looks Like Some Liquidations...

KC was hit the hardest of the three wheat futures markets, so I was able to take profits on some of my long MGEX/ short KC positions. Including the small extra long position as a "tail hedge," MGEX vs CBOT didn't move much at all.

Interestingly, the calendar spreads generally tightened--contangos flattened. There hasn't been any deterioration in supply/demand factors, grains just followed all the other commodities lower.

Ummm, No New Developments Really

Added a bit to long March MGEX/ short CBOT as it traded back to yesterday's levels. I think, all else being equal, that spread will trend toward the higher levels we see in the cash and Dec futures markets. The lower levels available out farther on the futures curve are due to the arbitrary levels set by the CBOT's VSR policy, not any anticipated difference in the economics of Minneapolis Spring Wheat vs Chicago Winter Wheat in upcoming months.

So Far, Not Good

While MGEX was steady to firmer against KC for most of the day, MGEX weakened throughout the day vs CBOT. While only yesterday I said that I was more comforable with the levels of the intermarket spread between MGEX and KC, today I felt compelled to put on a long MGEX/ short CBOT position. I am not willing to take much pain on this one though.

Also, I bought Dec/ sold March in KC wheat and CBOT corn anticipating a bounce in spread levels once the index rolls are done. Also dipped a toe in MGEX long Mar/ short May as that is 73% of full carry; so a limited downside and good potential if the wheat market turns stronger again. (As if $8/bushel isn't strong enough.)

Jumping Back into Wheat

Last week I got out of my intermarket wheat spreads fearing that the rush to commodities after the Fed announced QE2 would push the CBOT higher (against me). Today the wheat market, along with corn, looks to have reversed direction and started heading back down. So I am getting back in, sort of. Today I bought MGEX and sold KC. I believe this spread will be less volatile than MGEX/CBOT and I am more comfortable with the current level of the spread: I paid less then 8 cent premium for some Dec MGEX and only around 7 cents premium for some March.

I will be looking at the calendar spreads tomorrow as it is getting to the end of the traditional "Goldman roll." We may have already seen the biggest contango numbers for the Dec/March spreads.

Taking Off Early

No trading again. No values strike me as compelling. More speculators climbing into commodities--which is OK, I mean the Fed gave us all a strong push in that direction. And it is too soon to fade the speculators, so I'm reading and waiting.

According to the DTN/Progressive Farmer website, the KCBT is modifying its wheat contract's delivery specifications in an attempt to induce closer convergence at futures expiration. I don't see how raising the quality requirements for futures would make them less attractive or the physical wheat more attractive. When there is an enormous amount of financial speculation in a commodity contract, especially one where nobody ever has to take delivery of the physical, the futures will have to trade up to attract more sellers. As long as the market is at full carry and delivery is shipping certificates with a modest penalty for deferral, the cash/futures basis will be forced out to very wide levels.

Adding to MGEX Position, But Not in Wheat

Wheat traded up on, well, who knows why? QE2? Probably. CBOT gained ground against KC and MGEX as I feared it would if QE2 inspired a rush to commodities. Didn't gain a lot of ground though. I'm still flat.

Biggest trade for me today was paying the offer for an MGEX seat. I think they have cash and real estate of $45K/seat, leaving the trading business valued at $50K/seat. If ICE thinks the Climate Exchange is worth $600 million, I think the MGEX trading business is worth at least $20 million.

Liquidated Everything

Out of all calendar spreads, intermarket wheat spreads, ethanol and oats vs corn...everything.

All gone in the first half hour.

Most of my strategies are predicated on selling futures contracts that are the most popular with commodity indexers and speculators: nearby CBOT Wheat and Corn. But the Fed's QE2 policy is drawing more money into the funds that pump up the commodity indexes and supplying more firepower to speculators. For a little while, I will wait and see what happens.

More Hard Wheat Strength

Dec MGEX (72 cents premium) and KC (56 cents) improved to new highs for the season against CBOT.

I haven't commented much on calendar spreads since I got smoked on them over the summer. After taking my losses, I noted that I still thought that CBOT wheat calendar spreads would go to full carries as deliveries neared and that forecast looks pretty good today. My problem then (and still) is that the direction of the calendar spreads is correlated with the direction of the MGEX and KC intermarket spreads; so I have to pick where I would prefer to take my limited amount of risk. Anyway, the Dec10/Dec11 on the CBOT reached its biggest yet contango (111+ cents) while MGEX at 43 cents carry from Dec10/Dec11 is nowhere near the early July levels of 65 cents. Should the CBOT stretch to over 120 cents for a year, I think the risk/reward shifts sharply toward favoring a long front/short back month strategy.

Ethanol Trading Versus Corn

Ethanol continued higher against corn today. The Nov/Dec stayed close to 9 cents premium Nov and Dec traded at a similar premium to Jan. That's pretty tight: 7.5% premium to get ethanol 60 days earlier.

Looking out on the futures curves, that leaves March ethanol at very cheap levels against March corn (which is around 75% of full carry against Dec10). Maybe it should be cheap, but it looks like there is not enough refining margin going forward to inspire producers to bring much new capacity into operation...so how will the current ethanol tightness be alleviated?

Still Waiting...

Still long MGEX vs CBOT in Dec and March. Long Dec MGEX vs KC. Maybe Dec MGEX at a dime over KC is a fair price, but Hard Spring Wheat cash is at least 75 cents over Hard Winter Wheat. Could the cash basis for KC stay 65 cents weaker than Minneapolis? Sure. But I don't know why that would be a great bet. Plenty of wheat in storage at both locations.

Big news week coming up, but the Fed news will be out after the pit close Wednesday, so I don't expect we will see major direction in the market 'til Thursday.