Copper(x2)/Gold Spread: Revise the Revision!

Getting Cute

Currently, the blog is working an order to buy the December copper(x2)/gold spread if it makes a two-day close above the declining 100-day Moving Average.  The spread hasn’t made a two-day close above the declining 100-day MA in nearly a year, so we’re assuming it would signal a bullish trend change. That’s why we’ve been willing to throw our hat in the ring and get long if it happens.

However

We’re going to get cute here and put on a long position right now.

The reasons for buying in right now are two-fold.

December Copper (x2) Gold spread daily (double bottom)

December Copper (x2) Gold spread daily (double bottom)

First, it appears that a double bottom-type pattern may be forming.  The December copper(x2)/gold spread made a contract low at -$24,105 on February 11th and rallied.  It then made a slightly higher low at -$23,645 on May 18th and is starting to rally again.

Copper (x2) Gold spread weekly

Copper (x2) Gold spread weekly

Secondly, this is currently only the third time in nearly half a century when the copper(x2)/gold spread has traded to -$20,000 or lower, basis the nearest-futures weekly chart.  Now, we’re not necessarily going in just because the spread breached the -$20,000 level.  We’re making our move because of how long this spread has been held underwater.

Copper (x2) Gold spread (1980-1981) weekly

Copper (x2) Gold spread (1980-1981) weekly

On the weekly timeframe, the spread first closed below -$20,000 in late June of 1980.  The last time that it closed below -$20,000 during that run was sixteen weeks later in early October.  It didn’t return to the -$20,000 mark again until the great Financial Crisis of ’08.

Copper (x2) Gold spread (2008-2009) weekly

Copper (x2) Gold spread (2008-2009) weekly

During the worst financial period in most of our lifetimes, the copper(x2)/gold spread finally closed back under -$20,000 in the second half of December of 2008.  It then chopped back and forth for a bit as the bottoms for many markets were being established.  The last time that it closed below -$20,000 in this timeframe was nine weeks later in mid-February of 2009.  The spread then staged a two-year bull market as it ripped over $123,000 higher!

Copper (x2) Gold spread (2015-2016) weekly

Copper (x2) Gold spread (2015-2016) weekly

This brings us to the current bear market.  The copper(x2)/gold spread first closed below -$20,000 (on the weekly nearest-futures chart) in the second week of February.  Despite a couple of good rally attempts into late March and late April, the gains didn’t last.  The spread once again closed out the week below -$20,000 just last week.  Now, if you apply a complex mathematical algorithm known as counting, you will discover that this has been a fifteen-week duration that the spread has been down here.  If the nearest-futures spread backs off just $650 by tomorrow’s close, it will match the sixteen week stretch from 1980.  So it seems to me, dear reader, that time may be running out for the bears.

As an added bonus, did you happen to notice that the second weekly low in the 1980 market was slightly lower than the first weekly low

And that the second weekly low in the 2008/2009 market was slightly lower than the first weekly low

And that the second weekly low in the current market is slightly lower than the first weekly low?!

Gee, it’s starting to look like a pattern here.

Then What

Based on the above argument, we’re going to plunge into the copper(x2)/gold spread right here.  But in the event that we get punished for acting on our deep market revelations and get stopped out, the blog will simply return to the original plan of getting long on a two-day close above the declining 100-day MA.

In the event that we do get it right, we’ll be looking to take full advantage of the situation by adding to the position, i.e. pyramiding, as the new bull market unfolds.  Since the 100-day MA is so close by (currently around -$14,580 and dropping), it seems that using a two-day close above it would be too quick for an ‘add-on’ position.  So we’ll watch for a breakout above resistance between the March 28th high of -$9,535 and the April 22nd high of -$9,625 for a green light to add more spreads between the red metal and the yellow metal.

Trade Strategy:

Cancel the hypothetical order to buy the December copper(x2)/gold spread on a two-day close above the 100-day MA.

Place a new order to buy two December copper contracts and simultaneously sell one December gold contract at a spread of -$18,000 or better.  Initially, the spread should be liquidated on a two-consecutive day close below -$25,000.

If stopped out, place a new hypothetical order to buy two December copper contracts and simultaneously sell one December gold contract if the spread between the value of the sum of two 25,000 lb. copper contracts and the value of one 100 oz. gold contract makes a two-day close above the 100-day MA.  Exit this spread on a two-consecutive day close $500 below the contract low that precedes the entry.

 

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Kansas City/Chicago Wheat Spread: Follow the September Spread

We’d Like More Time

Last week the July Kansas City/Chicago wheat spread hit a new contract low of -24 cents (premium CBOT wheat).  The ‘cheap’ got even cheaper.

And on the nearest-futures monthly chart, the KC/Chicago wheat spread is even lower at -31 1/2 cents.  This is only the sixth time in forty-five years that KC wheat has been priced at a discount this big!  Profit opportunity is a brewin’ here, folks.

Kansas City Chicago Wheat spread (nearest-futures) monthly

Kansas City Chicago Wheat spread (nearest-futures) monthly

The blog currently has an outstanding order to buy the July KC/Chicago wheat spread on a recovery of the similar lows established back in November and February.  But the thing is, July grain contracts will have to be rolled in about five weeks and we don’t even have a position in it yet!  So we’re gonna start stalking the September spread for a trade setup instead.

The September Kansas City/Chicago wheat spread bottomed at -3 cents (premium CBOT wheat) on February 17th and bounced.  After breaching this support level at the end of April, the spread failed to recover.  Now that this prior support level has been broken, it turns into a resistance level.

Coincidentally, the May 9th bounce high –which also marks the current high for the month-is located at -3 3/4 cents.  This is just three-quarters of a cent below the February low of -3 cents so it acts as a reinforcement of the resistance level.  Therefore, we can use a close above this level as our trigger to get positioned on the long side of the September Kansas City/Chicago wheat spread.

September Kansas City Chicago Wheat spread daily

September Kansas City Chicago Wheat spread daily

Also, note that the declining 30-day Moving Average is currently located near -6 cents.  To trip the wire on our entry criteria, the spread will have to close above the 30-day MA for the first time since late March.  This could serve as good confirmation.

Trade Strategy:

Cancel the hypothetical order to buy one July Kansas City/Chicago wheat spread.  Work a new hypothetical order to buy one September Kansas City wheat contract and simultaneously sell one September Chicago wheat contract if the spread closes above -3 cents (premium CBOT wheat).  If filled, risk a two-day close of three cents below the contract low that precedes the entry.

Gold/Silver Spread: Go On, Take the Money and Run!

Book ‘Em, Danno!

The IMC blog is holding a hypothetical short position in the June-July gold (100 oz.)/silver (x8,000/oz.) spread.  It was entered at approximately -$1,890 (premium silver) on St. Patrick’s Day.

At the end of April, the spread nearly matched the multi-month correction low that was established on October 7th.  This was a key support level, so a bounce could be expected.

Gold (100 oz.) Silver (8,000 oz.) spread (nearest-futures) daily

Gold (100 oz.) Silver (8,000 oz.) spread (nearest-futures) daily

The spread bounced, of course.  But the problem is that it has continued to bounce.  If it was a simple bear market rally the spread should have turned over a few days later.  This bounce has lasted for nearly a month now.

Furthermore, the gold (100 oz.)/silver (x8,000/oz.) spread closed below the rising weekly 75-bar Moving Average for the first time in over three years when the month began.  This should have been an acceleration catalyst.  Instead, the spread closed back above the weekly 75-bar MA last week.

Gold (100 oz.) Silver (8,000 oz.) spread (75-bar MA) weekly

Gold (100 oz.) Silver (8,000 oz.) spread (75-bar MA) weekly

Since the blog is positioned on the short side of the spread, the price action over the last few weeks is a concern.

Where’s It End?

Currently, a Fibonacci .618 retracement of the entire decline from the March 1st multi-year high would send the June-July gold (100 oz.)/silver (x8,000/oz.) spread up to -$2,368 (premium silver).  This level would be confluent with the March 21st correction low of -$2,486.  Remember the old technical rule here: Old price support, once it has been broken, becomes new price resistance.

June-July Gold (100 oz.) Silver (8,000 oz.) spread daily

June-July Gold (100 oz.) Silver (8,000 oz.) spread daily

Now, just because the spread might make it to this resistance level, it doesn’t mean that it is obligated to stop there.  The spread’s been above ‘even money’ before.  Our approach is to react to how the spread behaves at support/resistance levels, not predict how it will behave.

A Golden Sign

A lot of times, the gold/silver spread will trend in the same direction as the underlying metals themselves.  Silver usually moves at a faster clip than gold.  So the gold/silver usually drops when metals rally because silver is moving up faster than gold.  Conversely, the gold/silver usually rallies when metals drop because silver is moving down faster than gold.

In light of this relationship, it can be illuminating to see what the underlying gold and silver markets are doing.

After a multi-year bear market ripped nearly half of the value off the yellow metal, gold staged a huge bull run off the December low.  As a matter of fact, gold started the year with its best quarterly gain –up a whopping 16.4%- since 1986.  A month later, the market was up 22% and hitting the psychological $1,300/oz. level for the first time since January 2015.   This could very well be the start of a new bull market.

But

Markets don’t go all the way up in a straight line.  Well, unless you’re short on margin and don’t have any protective stops or hedges in place.  But Murphy’s Law is a topic for another post, though.

It appears that gold could have finished a first leg higher and is just starting a correction.  Consider the market’s behavior on three timeframes:

On the daily chart, gold hit a short-term peak of $1,287.80 on March 11th.  It then recovered and cleared the March peak at the end of April/start of May.  This only lasted a couple of days and gold slipped back under the March high.  This is appears to be a failed breakout attempt.

Gold (nearest-futures) daily

Gold (nearest-futures) daily

Furthermore, gold pulled back to technical support at the rising 50-day Moving Average a few times in April. It recovered each time.  Today, however, the market is poised to close well below the 50-day MA.

On the weekly chart, gold nearly matched price resistance at the January 2015 top at $1,307.00 at the beginning of the month.  It failed to clear it and has now posted lower weekly lows for three weeks in a row.

Gold (nearest-futures) weekly

Gold (nearest-futures) weekly

On the monthly chart, gold has made higher monthly highs for five consecutive months.  That’s quite a stretch!  Gold has not done this since the end of 2010.  The same thing happened in late 2009 as well.  Breaks to three and four-month lows followed.

Gold (nearest-futures) monthly

Gold (nearest-futures) monthly

As an added bonus, the US dollar undercut the August 2015 correction low at the start of the month and quickly reversed higher.  This Wash & Rinse buy signal is bullish.  The reversal had momentum because the buck is now even above last month’s high.  This created an ‘outside bar’ with an upward reversal on the monthly timeframe.  Since the greenback and gold have a strong inverse relationship, meaning they usually trend in opposite directions, then the recent bullish behavior in the dollar will most likely be a stiff headwind for gold prices.

US Dollar Index (cash) daily

US Dollar Index (cash) daily

All that leads to the conclusion that the gold/silver spread could see significantly more upside over the near-term.

Here’s the Plan, Stan

Near-term, the spread looks poised for more upside.  So it makes sense to cover the position.  Longer-term, however, our studies of the spread and the ratio have led us to believe that the gold (100 oz.)/silver (x8,000/oz.) spread could see a minimum downside target of somewhere around -$80,000 (premium silver) over the coming months and years.

So we’ll do both.  Right now, we’ll exit stage right and take a quick profit.  (Don’t forget, though, that today’s profit will be slightly offset by the ‘add-on’ spread that we took a -$2,352 hit on back in March).  Then we’ll watch the price action closely from the sidelines and look for a setup to reenter a short spread position.

Trade Strategy:

On the hypothetical short position in the June-July gold (100 oz.)/silver (x8,000/oz.) spread entered at -$1,890 (premium silver) on March 17th, exit at the market-on-close on Tuesday, May 24th.  

 

US Treasuries: Roll to Labor Day Spreads Ahead of Memorial Day!

Roll With the Punches

On March 1st the IMC blog initiated a couple of short positions on the yield curve.  A short June T-bond/T-note spread was entered at 32-24 and a short June T-note/5-Year note spread was entered at 9-03.5.

We’ve taken some punches on these spreads since we got in them, but not enough to knock us out of the game yet.  For instance, we were risking a two-day close above 35-19 on the June T-bond/T-note spread.  The spread made a one-day close above this level on April 7th and a one-day close above this level on May 13th (a Friday the Thirteenth, no less!).  It was close, but we survived it.

Due to the First Notice Day for the June futures contracts next week, the positions needed to be rolled to the September contracts.

The Lay of the Land

Fundamentally, decent economic data and comments from several Fed members –including Janet Yellen- have substantially increased the odds of another rate hike in June or July.  This helped cap the rally in the US treasury market.

June T-bond T-note spread daily

June T-bond T-note spread daily

Technically, a double top appears to have formed on the June T-bond/T-note spread at the April 7th and May 13th highs, both located at 35-24.  To confirm this ominous pattern, the low between the two highs needs to be broken.  That low is located about two full points from here at the April 26th low of 32-01.5.

T-bond T-note spread weekly

T-bond T-note spread weekly

Resistance for the T-bond/T-note spread is apparent on the weekly time frame as well.  The 2015 peak was established at 35-26.5 and the spread topped out at 35-22 in February and 35-24 this month.

Closer in on the yield curve, the June T-note/5-Year note spread hit a wall of resistance as well.  The spread peaked near 9-30 on February 11th and then it put in some slightly lower highs of nearly 9-22 on April 7th and 9-21.5 on May 13th.

June T-note 5-year note spread daily

June T-note 5-year note spread daily

In light of this, the plan is to roll to the September spreads and risk a breakout above the April/May highs.  We’ll come back and talk about increasing the position size only if the US treasury spreads get well below their April lows.

Trade Strategy:

T-bond/T-note Spread

Liquidate the hypothetical short position in the June T-bond/T-note spread and simultaneously enter a hypothetical short position in the September T-bond/T-note spread at the market-on-close on Tuesday, May 24th.  Risk the September spread to a two-consecutive day close above 34-19.

T-note/5-Year-note Spread

Liquidate the hypothetical short position in the June T-note/5-Year note spread and simultaneously enter a hypothetical short position in the September T-note/5-Year note spread at the market-on-close on Tuesday, May 24th.  Risk the September spread to a two-consecutive day close above 10-06.

RBOB/ULSD Spread: Looks Like It Could Tank!

Running Out of Gas?

When you take crude oil to the refinery and ‘crack’ it, you get two products: gasoline and ultra-low sulfur diesel fuel (ULSD).  Therefore, it makes sense that these two energy products would have a strong correlation.

We can talk about the correlation coefficient or discuss fundamental links all day long, but I think there’s a much faster way to determine the correlation between markets.  Simply overlay the price data of a few decades and see if there’s an apparent relationship.  If the two markets typically run together, you’ve got yourself a good market pair for spread trading.

RBOB Gasoline ULSD overlay monthly

RBOB Gasoline ULSD overlay monthly

Now, there will likely be times where one market zigs and the other one zags.  Or there may be times when a market makes a big move and the other makes an anemic move or does nothing at all.  But those are usually where the good spread opportunities materialize.  So it’s not how correlated the markets are all the time, but how correlated they are most of the time.

Having said all of that, take a peek at the last thirty years of monthly closing prices of RBOB and ULSD.  You can see that the two markets are very correlated.

A Note on ULSD

In case you don’t already know, the ultra-low sulfur diesel fuel (ULSD) contract was previously the heating oil contract.  The only difference between them is the amount of the sulfur content.  Three years ago, the distillate fuel contract specs for sulfur content was lowered substantially from 2,000 PPM (sulfur content) to 15 PPM.  The change was made in compliance with EPA rules.

For those of us who rely on price history and statistics to locate trade opportunities, this change has not mattered.  The ULSD contract seems to follow the same seasonal patterns as heating oil and the inter-market relationships continue to function the same way.

Historic Extremes

Given the strong correlation between the gasoline and the ultra-low sulfur diesel fuel, one may wonder if there’s much of an opportunity for a spread trade.  After all, it doesn’t appear that there’s a divergence between the two markets. They seem to be trending closely together.

However, once you plot the difference between the two markets -aka the spread– you will see that there is quite a bit of movement and, therefore, trading opportunities.

Looking at three decades of price history, you can see that the spread has been unsustainable whenever the nearest-futures RBOB has reached a price premium of 20 cents or more over the nearest-futures ULSD.  This year is only the eighth time it has happened in the last thirty years.

RBOB Gasoline ULSD spread (nearest-futures) monthly

RBOB Gasoline ULSD spread (nearest-futures) monthly

The duration of the premium is getting long in the tooth as well.  On a monthly closing basis, the nearest-futures RBOB has closed with a premium of 20 cents or more for three consecutive months.  This matches the record three-month durations of March-May 2004, May-July 2006, and April-June 2007.

If it weren’t for the April 2006 close of 18.46 cents, the spread would have closed above 20 cents for five months in a row.  Nonetheless, the three month duration is still historically stretched.  And in a couple more weeks, the current duration could be stretched to four consecutive months.

The Ratio Confirmation

Coming from a slightly different angle, the ratio between gasoline and ultra-low sulfur diesel fuel also indicates that the RBOB is getting expensive.

RBOB Gasoline ULSD ratio (nearest-futures) monthly

RBOB Gasoline ULSD ratio (nearest-futures) monthly

In March the nearest-futures gasoline/ULSD ratio closed at 1.22:1 on the monthly timeframe.  In the last thirty years, there were thirteen other times when the ratio made it to 1.22:1 or higher (on a monthly closing-basis).  Even then, it proved to be temporary.  The longest duration that the ratio was able to stay at 1.22:1 or higher was four consecutive months.  It eventually turned over and dropped swiftly.

Seasonal Tops

As we just pointed out, right now is only the eighth year in the last thirty that the RBOB gasoline/ULSD spread has reached 20 cents or higher.  Interestingly, The prior seven occurrences all peak around this time of year.

Just one of the tops occurred in June and the other six tops were established in April or May.  This implies that the short sellers should have the wind to their backs now.

Daily Spread Pattern

For trading purposes, we’re going to focus on the August spread.  This gives us two and a half months until we’d have to worry about rollovers.

The August gasoline/ULSD spread may have established a double top-type pattern between the January 20th contract high of 24.52 cents (premium RBOB) and the slightly lower March 29th high of 23.87 cents.  It would take a break below the February 8th low of 6.67 cents to confirm it, but we’d rather be short long before that happens.

August RBOB Gasoline ULSD spread daily

August RBOB Gasoline ULSD spread daily

Furthermore, the spread made a clean break below technical support at the rising 100-day Moving Average this month.  This is a significant event.  Previous drops to either side of the 100-day MA in May 2015, late August/early September, and once again in mid-February were followed by quick recoveries.  This time, it appears to have broken through.  That’s bearish, folks.

Picking My Spot

Now that the 100-day MA has been broken, it goes from being a support line to a resistance line.  So I would normally look to sell the first bounce into the 100-day MA.

However, with US driving season set to kick off during the Memorial Day weekend in just two weeks, there is a chance that the bounce could be significant and initially overshoot the 100-day MA (currently around +17 cents).  So I initially want to lead the target and shoot for a higher resistance level.

A Fibonacci .618 retracement of the current decline off the March high would send the spread up near +20 cents again.  This is coincident with the late April bounce high.  Therefore, a rally into this area could be a nice selling opportunity.

If we get lucky and short the rally, we will certainly look for a setup to add to the position.  A bearish trend reversal could invert the spread and give the ULSD market the price premium.  A break of the February correction low should confirm that this energy spread is going to tank, so we want to take full advantage of that.  So get ready to step on the gas!

Trade Strategy:

The blog will work a hypothetical order to sell one 42,000 gallon August RBOB gasoline contract and simultaneously buy one 42,000 gallon August ULSD (heating oil) contract on a rally to +19.75 cents (premium RBOB).  If filled, risk a two-consecutive day close above +24.75 cents.

Copper(x2)/Gold Spread: Trading the Christmas Contracts

Time Marches On

The IMC blog has been waiting patiently for months for the copper(x2)/gold spread to trigger a buy signal.  Currently, we are using a two-day close above the declining 100-day Moving Average to give us the green light to bet that the red metal will outperform the yellow metal.  It hasn’t happened in eleven months now.

Other than the last two days of 2015, the sum of the value of two copper contracts has been worth less than the value of one gold contract for six months straight.  This is the longest inversion since the mid-1980s and beats out the four-month inversion that occurred between late 2008 and early 2009 when the world was mired in the great Financial Crisis.

Pressing On a Wire

Yesterday the nearest-futures copper(x2)/gold spread closed just $995 away from the February 11th multi-year low of -$24,465 (premium gold).  A close below the February low could fast track the market to the 2009 all-time low of -$29,380 (premium gold).  In the futures markets, that’s the sort of move that could happen in just a day’s time.

Copper (x2) Gold spread (nearest-futures) daily

Copper (x2) Gold spread (nearest-futures) daily

Given the stretched duration of the inversion and the extreme lows of the spread, one could argue that everything is being lined up for a major bull run once the trend finally changes.

Extending Our Lease

For the last couple of months, we’ve been monitoring the Sep-Aug copper(x2)/gold spread for an entry signal.  But the December spread is trading at a similar price.  So we are inclined to switch over to stalking the December spread for a trade instead.  It buys us more time.

December Copper (x2) Gold spread daily

December Copper (x2) Gold spread daily

Once the trade is entered, we won’t have to worry about rolling the contracts until we near Thanksgiving!  That’s a lot of time.  We’ll take it!

Future Changes…Maybe

Currently, the ratio between the value of one 25,000 lb. copper contract and one 100 oz. gold contract is near a multi-year low of 0.40:1.  If it continues to sink, it may have a shot at matching the financial crisis low of 0.35:1.  That would certainly be a noteworthy event.  After all, the copper/gold ratio has only reached 0.35:1 or lower on three occasions in the last forty years!

Copper Gold ratio (nearest-futures) monthly

Copper Gold ratio (nearest-futures) monthly

If the ratio does drop down to this area, it would take nearly three copper contracts to equal one gold contract.  If that happens, we may adjust our spread ratio to buy three copper contracts for every one gold contract we sell short.  This would normalize the spread position.

The Trade of a Lifetime?

Think about it: The inversion is already the longest in over three decades and dropping to a ratio of 0.35:1 would be only the fourth occurrence in four decades that it’s been priced that low.  Most likely, that would be accompanied by a test of the all-time low in the spread…or maybe even a new record low!  This is setting the stage for a major macro bet.  Get your financial affairs in order and have a game plan for how you’re gonna trade this spread.  You won’t want to miss this!

Trade Strategy:

Cancel the hypothetical order for the Sep-Aug copper(x2)/gold spread and place a new order to buy two December copper contracts and simultaneously sell one December gold contract if the spread between the value of the sum of two 25,000 lb. copper contracts and the value of one 100 oz. gold contract makes a two-day close above the 100-day MA (currently around -$12,700).  Initially, the spread should be liquidated on a two-consecutive day close $500 below the contract low that precedes the entry.

Bund/BOBL spread: Trade in September

Getting More Time

We’re about at the halfway mark for the month, so traders will soon start rolling out of their June Treasury contracts and into the September deliveries.  Since we have not yet been elected on our contingency to short the June Bund/BOBL spread, we’ll go ahead and switch to working orders for the September spread. That way, we won’t have to worry about rolling the position until the end of summer.

You may recall that our parameter for getting short was to wait for a break below price support at the similar lows of mid-February and mid-March at 30.63 and 30.61, respectively.  This was confluent with the weekly 2015 high of 30.58.

Well, the spread got awfully close to that point in late April and then took off again.  This confirms that it is an important price level to monitor.

The September Bund/BOBL spread is trading at a discount of nearly two full points to the June spread, so it is a lot closer to the weekly 2015 high than the June spread is.  When it becomes the nearest-futures spread in a few weeks, the pressure will get turned up.  Either the September spread needs to take the baton from the bull market and run higher or else it could indicate that the run is over.

September Euro Bund Euro BOBL spread daily

September Euro Bund Euro BOBL spread daily

The March low of 28.66 and slightly higher April low of 28.81 set key support on the daily timeframe for the September Bund/BOBL spread.  Therefore, we will use a break of this level as a sell signal.

A test or breakout above the current contract high –especially after the September contracts become the front month contracts– could provide us with a setup to get short at higher prices.  A Wash & Rinse sell pattern would certainly be nice.  If so, we will definitely be posting something.  Until then, Schönes Wochenende!

Trade Strategy:

Cancel the hypothetical order to short the June Bund/BOBL spread.  Replace it with a hypothetical order to sell one September Euro bund contract and simultaneously buy one September Euro BOBL contract if the spread closes below 28.66.  Initially, the spread will be liquidated on a two-consecutive day close 10 ticks above the contract high that precedes the entry (currently at 31.26). 

Kansas City/Chicago Wheat Spread: New Lows. What to Do?!

Down & Out

The IMC blog was holding a long position in the July KC/Chicago wheat spread that was entered at the equivalent of at + 4 cents (premium KC wheat) on November 30th.

The position was liquidated on May 3rd at -15 cents (premium CBOT wheat) because the spread had closed below -13 cents for two days in a row.  This resulted in a loss of -$950 per spread.

Despite the stop-out, the KC/Chicago wheat spread is still a great candidate for a trade on the long side.  This is because the higher-quality KC wheat never stays priced at a discount to Chicago wheat.

Therefore, we are going to issue criteria to get back in the saddle.

Support Becomes Resistance

The July KC/Chicago wheat spread had important price support at the similar lows from November and February at -6 1/4 cents and -7 cents, respectively.  The break below these lows was the reason we got out.

July Kansas City Chicago Wheat spread daily

July Kansas City Chicago Wheat spread daily

Now that these old lows have been breached, this support level changed into a resistance level.  Therefore, a close back above the November and February lows could indicate that capitulation has occurred.  If so, we’d have a good reason to get back in.

In addition, a close above these lows would mean that the spread is also closing back above the declining 20-day Moving Average for the first time since late March.  This should confirm that the down trend has ended.

Trade Strategy:

Work a hypothetical order to buy one July Kansas City wheat contract and simultaneously sell one July Chicago wheat contract if the spread closes above -7 cents (premium CBOT wheat).  If filled, we will initially risk a two-day close of three cents below the contract low that precedes the entry.