Scaling Out of July MGEX

Not that I don't like, I do--but it's increasingly volatile so my positions need to be smaller. So just tiny positions long MGEX vs KC and long July MGEX versus September new crop. I was concerned that the big increase in July MGEX value was due to a very localized shortage of spring wheat deliverable against the Minneapolis contract, but with 14% protein KC wheat trading at similar numbers, it looks more like a protein issue than a location and futures issue. Tomorrow's release of deliverable stocks in Duluth will still be worth watching.

Haven't posted for a couple days due to a computer glitch.

July MGEX Staying Elevated

With another day at 10+ cents July/Sep MGEX backwardation and July MGEX at 70+ cents premium to KC, it doesn't so much look like a spike in July MGEX as persistent demand at these elevated levels. The MGEX deliverable stocks continue to fall in Duluth-- which is no surprise at this time of year, but could lead to a crunch on July deliveries. Especially if we see buyers looking to stop significant amounts the way Newedge did in the May contract.

I'm not trying to fight the trend, so I put on some long July MGEX vs KC and on the calendar. Right here I prefer to short the KC even though the HRW crop is likely to be small in the US-- I still think that there will be quality issues on the July KC deliveries (the last delivery month before contract specs are tightened) and I don't like shorting July CBOT at levels so close to corn.

Still Trying to Be Nimble

Flat on MGEX wheat futures now.

Looking at the calendar spreads on KC and CBOT, I put on some short July/long Sep KC and some short Sep/long Dec CBOT. In the former, the trade is beyond full carry, but I think the changing contract specs for Sep will drive that spread to further contango. In the latter, we are still a long way from full carry and it doesn't look like there will be a shortage of soft winter wheat...

Mighty, Mighty MGEX

Not only did July/Sep MGEX finish at 18 cents premium July, but the rest of the calendar through July 12 traded at a small backwardation. I don't see how the supply/demand balance sheet for spring wheat points toward a market that tight right through the new crop harvest, but that's the market now.

The premium for July MGEX over KC has been varying in tight correlation with the movement on the calendar spreads. July MGEX has moved up a lot versus KC, but Dec MGEX is still only about 15 cents premium to KC--which is a bargain if the new crop MGEX spreads are predicting a tiny spring wheat harvest in September.

On the MGEX exchange front, the ICE says they are going to launch a spring wheat contract meant to appeal to Canadian interests--Canadian delivery points, perhaps priced in Canadian dollars. Seeing the poor job they've been building interest in current ICE Canada products (canola and barley), it seems a misguided effort to me. In a sane world, they would just buy the MGEX for $100MM using ICE shares as currency. ICE gets a thriving contract, they add the Canadian version if they like, and have the prospect of developing the grain index contracts--MGEX members get the liquidity event with favorable tax treatment. MGEX would certainly be more profitable immediately if it were merged into ICE.

Lots of Excitement around July MGEX

I have been noting a number of factors which pointed to tightness in the prompt MGEX contracts. The futures market seemed to just take notice over the last couple of days. Hooray!

But are we going to run out of spring wheat over the summer? No. Sure, the market will be rationing spring wheat through price, but to me that means we should see a stronger impact on intermarket spreads and maybe not so much on the calendar spreads. July MGEX traded 10-15 cents over Sep for most of the day, which is not wildly overvalued--but also not without risks. The same July MGEX traded up to over 50 cents premium to KC.

While it's possible that there will be big squeeze on July MGEX futures-it's not a very large market and perhaps there's not much deliverable wheat available--there isn't a big shortage of spring wheat in North America right now, so the calendar spreads don't seem like a great game to play at this point unless you have truly comprehensive physical market information. On the other hand, it seems to me that there is still plenty of upside on the intermarket spread versus KC. Dec11 MGEX is only about 10 cents premium to KC; if there is a sustained move to higher protein premiums, that should be a great level to buy MGEX vs KC.

Trying to Be Nimble

While I stopped trading early yesterday, I did narrow my focus a bit. I switched the long July MGEX/ short CBOT position I had to additional long MGEX/ short KC. So I have just that one intermarket spread and a long July/ short Sep MGEX calendar spread.

Deliverable stocks at Duluth dropped another 3MM bushels, so that's nearly half the deliverable stocks gone in about 5 weeks; there are only about 14MM bushels left and 606 May contracts still open after the last day of trading. It appears to me that there is a chance that supplies will get very tight on MGEX wheat.

As of mid-day today, we see July MGEX up 3 cents against Sep and 5-7 cents stronger against KC, so this trading thesis is being supported by the price action so far.

Drought Hurting HRW Crop... But We All Know That, Right?

For some time now, I have been very cautious about shorting KC wheat because of the very poor crop ratings and the likelihood of a very small harvest of Hard Red Winter Wheat that is the basis for the KC wheat futures contract. While I am still very cautious, I am beginning to think that the small crop has been factored into the price with KC futures at a huge $1.40 premium to CBOT's soft wheat futures. Sure, the drought could continue affect the KC future's crop, but it's a big world and US weather may not be the biggest driver.

Also, as I have mentioned in the past, the July KC contract also has some big negative factors to bear in mind. The full effect of the contract spec changes coming into force September 1 has possibly not been taken into account by many traders. Since only a tiny fraction of traders ever take delivery, most do not think the underlying specifications will matter much to them. However, the contract may ultimately (or quickly) gravitate to the value where buyers will actually take wheat that cannot satisfy the September specs.

Continuing Cautiously Bullish Nearby MGEX

Still maintaining long July MGEX vs KC and CBOT along with a some long July/ short Sep calendar spreads. Last day of trading for May contracts is tomorrow with 1000 contracts still open and May trading at 10+ cents premium. The market does not appear very well supplied.

For all the drought impacting the Hard Red wheat market in KC, that is trading at full carry right through September...actually even beyond full carry--most likely because of quality issues around the change in contract specs for Sep contracts. Anyway, that KC market just doesn't look as tight in the short term even if the prospects are good for tighter supply/demand balance sheets in 2012.

May MGEX Open Interest Still 1000+

May MGEX wheat futures have about 20X the normal open interest for a contract with 4 trading days left to expiration. Since volume is nearly nonexistent in May at this point, I think it is fair to assume that deliveries will ensue. This makes sense with May futures 60-70 cents below cash. The deliverable MGEX wheat stocks have been dropping rapidly since the beginning of April and this trend will now continue through May. If we continue at this pace, MGEX deliverable wheat stocks will drop to less than 10 million bushels by June...with several months to go before any new Spring Wheat arrives.

There is no similar inventory or strong cash basis story on either KC or CBOT. They have their own bullish stories, but not nearby inventory stories. So I am continuing to bet on the MGEX to be the best performer of the three.

No Patience...

Though I would prefer to wait to see April economic data from China to see if Asian demand is slowing generally, I just like that July MGEX wheat too much to wait. So I took small positions long MGEX against KC and CBOT.

With May MGEX trading at more than 10 cents over July, there is a tightness in MGEX wheat that will cause it to perform well right through the new crop September deliveries.

What Would I Like to See?

To get me back in the market-- right now-- I would have to see MGEX wheat around 30 cents cheaper versus either KC or CBOT. And that's assuming all the weather and supply fundamentals are still the same. Then I would buy MGEX on an intermarket spread. Or I would buy an MGEX July/Sep calendar spread at a 10-12 cent contango. That's about it. Highly risk averse right now.

Still Waiting for Inspiration

Fascinating as the wheat market always is, I am also trying to understand whether the sharp downturns in other commodities, obviously silver and other metals, but also cotton, sugar and so on, will have an impact on wheat futures.

For now, watching and waiting.

Must Be Some Ugly Conditions in Kansas

July KC wheat futures strengthened on the calendar spreads and strengthened sharply on the intermarket wheat spreads. Whether this is due to worsening crop conditions in the Hard Winter wheat growing areas or just some market noise only time will tell...but it was enough to shake me out.

Will take a fresh look at the whole grain market in the morning.

Bullish Calendar Spread Action on MGEX

Here on the first delivery day for May MGEX wheat, we see the May contract trading at a strong 8 cent premium to July. July, in turn, is 2 cents premium to September. Backwardation! Every bull's favorite term structure.

KC and CBOT May contracts are trading at steep discounts to July -- and July at even greater discounts to September. Part of this is the regular seasonal pattern where the new crop for MGEX doesn't arrive until September, but weather concerns and quality concerns on KC and CBOT are also playing a big role. So I am pressing on with my long July MGEX/short KC and CBOT intermarket spreads.