Cocoa/Sugar Spread: Roll From the Summer Spreads

Keep Rollin’ Along

The IMC blog has been on a bear market campaign in the cocoa/sugar (x2) spread for several months.  We are currently holding a short position in the July cocoa/sugar (x2) spread that was entered on September 30th from the equivalent of +$2,565.60 (premium cocoa), a second ‘add-on’ position that was entered at -$790.60 (premium sugar) on February 18th, and a third ‘add-on’ position that was entered at -$4,000 (premium sugar) on April 19th.

The First Notice Day for the July sugar contract is this week and liquidity in cocoa is well established in the September contracts.  Therefore, we’re going to roll the position into the autumn contracts.

Cocoa Sugar (x2) spread (nearest-futures) weeklyA bounce into the declining 75-day Moving Average could offer another short sale opportunity.  The bounces in December, February, and April all ended after the spread clipped the 75-day MA, so we’ll look to take advantage of this pattern.  Also, if/ when the cocoa/sugar (x2) spread reaches our minimum downside target of to -$20,000 (premium sugar) we will tighten the exit parameters on the position.

Trade Strategy:

On the hypothetical short July cocoa/sugar (x2) spreads entered at the equivalent of +$2,565.60 (premium cocoa), -$790.60 (premium sugar), and -$4,000 (premium sugar), roll to the September cocoa and October sugar contracts at the market-on-close on Tuesday, June 28th. 

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Platinum/Gold Spread: New Record Low

Back To the Dugout

The IMC blog entered a hypothetical speculative long position in October-December platinum/gold spread at the equivalent of -$239.40 (premium gold) on April 14th.  The position was liquidated at -$350.50 (premium gold) on June 27th, resulting in a loss of -$11,100.

Yesterday’s close was a new all-time low for the spread, while the ratio matched the January 20th multi-decade low of 0.74:1.  If a double bottom does not form right here, the ratio could soon reach the October 1982 record low of 0.69:1.

Platinum Gold ratio (nearest-futures) weekly

Platinum Gold ratio (nearest-futures) weekly

We are now back in the dugout and watching to see how this recent collapse plays out.  If the whole Brexit shakeup continues to weigh on the markets, the platinum/gold spread will likely suffer.  Once we get some more decisive price patterns, be it a double bottom in the ratio, a recovery in the spread, etc., we will come back up to the plate and take another swing at it.

Corn/Oat Spread: Sell the Bounce!

Another Day, Another Grain Spread Play

Wow, we’ve made a ton of posts on various grain spreads recently!  The big run over the last couple of months has pushed some spreads into historically high territory where the ground was fertile for prior bear markets to be sown.

Another grain spread that may be ready for short sellers to harvest is corn vs. oats.  Let’s take a look and see why.

First of all, the correlation between corn and oat prices has been very strong for the last several decades.  I bet if I had the cash prices for the last hundred years readily available it would show the same thing.

Corn Oats overlay weekly

Corn Oats overlay weekly

For the IMC blog, a strong correlation between two markets is the first order of business in hunting for spread trading opportunities.  Remember, we look for commodity spreads that hit historic extremes (hitting multi-year highs, outliers, pushing past two standard deviations, etc.) and then bet on a reversion to the mean.  So a strong correlation is a necessary foundation for this strategy to work.  And the corn and oat markets have it!

The Ratio Says It All

A few weeks ago, the corn/oat ratio ended the week at 2.22:1 and nearly matched the January 2012 multi-year high of 2.24:1.  At this level, the price of corn is more than double the price of oats.

Corn Oats ratio weekly

Corn Oats ratio weekly

A ratio of 2.2:1 is historically very expensive.  Over the last forty-five years, the corn/oat ratio has made it to 2.2:1 or higher not even a dozen times.  Each occurrence has been followed by a major bear market decline.  There’s no reason to think this pattern will stop now.

Every prior run to 2.2:1 or higher has been followed by a decline to 1.45:1 or lower.  Therefore, once the ratio shows that the trend has reversed and turned bearish, 1.45:1 should be our minimum downside target.

The Spread

Since corn is double the price of oats, we will normalize the spread relationship by trading one corn contract against two oat contracts.

Three weeks ago, the corn/oat (x2) spread had closed a nearly four-year high of +42 1/4 cents (premium corn) on the weekly nearest-futures chart.  This is only the fifth bull market since 1970 that has reached +40 cents (premium corn) or higher, basis weekly nearest-futures chart.  It certainly qualifies as an extreme.

Corn Oats (x2) spread weekly

Corn Oats (x2) spread weekly

The bear markets that followed the prior four bull markets sent the corn/oat (x2) spread down to final lows of -$1.15 3/4 (premium oats) in 1977, -$3.83 1/2 (premium oats) in 1988, -85 1/4 cents (premium oats) in 1997, and -$5.63 1/2 (premium oats) in 2014.

Basis a futures spread position consisting of one short corn contract and two long oat contracts, the size of the bear market declines from the highs to the lows were $8,737.50 into the 1977 bottom, $21,212.50 into the 1988 bottom, $7,100 into the 1997 bottom, and $31,625 into the 2014 bottom.  This indicates to us that the bear markets in this spread are worth trading!

The September Spread

The September corn/oat (x2) spread surpassed the ‘even money’ mark on May 25th.  The current contract high of +18 1/4 cents (premium corn) was made three weeks ago on June 3rd, which is the same day that the nearest-futures July spread posted its multi-year high of +42 1/4 cents (premium corn).

The nearest-futures July spread has collapsed over the last three weeks.  Today it touched an intraday four-month low of -40 cents (premium oats).  The September spread is moving at a slower pace as it has only pulled back to a six-week low.  Given the size of the selloff, a bear market bounce would not be all that surprising.

September Corn Oats (x2) spread daily

September Corn Oats (x2) spread daily

For the first time in a month, the September corn/oat (x2) spread has spent an entire week below the ‘even money’ mark.  Therefore, this level is now an important psychological barrier.  Furthermore, a Fibonacci .618 retracement of the current decline sets technical resistance just beyond this psychological level at +2 1/4 cents (premium corn).

Based on the idea that the current break is a bit stretched and due for a bounce…

And that the ‘even money’ mark will offer psychological resistance…

And that a Fibonacci .618 resistance line is located just a couple of pennies above it…

The blog’s initial strategy will be to short the September corn/oat (x2) spread on a bounce to ‘even money’ and risk to new contract highs.  Once we have a decent size open profit on the initial position we will look for a setup to start pyramiding it.

Trade Strategy:

The blog will work a hypothetical order to sell one 5,000 bushel September corn contract and simultaneously buy two 5,000 bushel September oat contracts at ‘even money’.  If filled, exit on a two-day close above +20 cents (premium corn).

Kansas City/Chicago Wheat Spread: Downward Adjustment For the Entry Point

Lower the Bar

The IMC blog has been working a hypothetical order to buy the September Kansas City/Chicago wheat spread on a close above price resistance between the similar May high and February low.  Based on the path that the spread has followed for the last few weeks, we now have a chance to lower the bar and get in at an even better price.

The September spread closed at a new contract low of -25 cents (premium CBOT wheat) on June 13th.  It then powered higher for two days and peaked just below resistance at the declining 30-day Moving Average on June 15th.  Here we are just over a week later and the spread is just a penny shy of the contract low again.

The 30-day MA is currently working as a technical resistance level for the September Kansas City/Chicago wheat spread.  First of all, it stopped the last bear market rally.  Secondly, the spread has closed below the 30-day MA every single day for nearly one-quarter of a year.

September Kansas City Chicago Wheat spread daily

September Kansas City Chicago Wheat spread daily

After establishing the current 2016 high in mid-March, the spread has progressively made a series of lower lows and lower highs.  This is a well-defined downtrend.  Therefore, the most recent bounce high at -15 cents (premium CBOT wheat) is an important line in the sand for this bear market.

Remember, the Kansas City wheat does not normally stay priced at a discount to the Chicago wheat.  So a bullish trend change that puts you long the spread while it’s still inverted is a high-probability trade.  You’d already have an open profit when the spread crosses the ‘even money’ level.  This could provide enough cushion to allow for pyramiding just as the spread is righting itself.  That’s the sort of thing we look for.

Trade Strategy:

Change the hypothetical order to buy one September Kansas City wheat contract and simultaneously sell one September Chicago wheat contract from a close above -3 cents (premium CBOT wheat) to a two-day close above the 30-day MA (currently at -17 cents) or a one-day close above -15 cents (premium CBOT wheat), whichever occurs first.  If filled, risk a two-day close of three cents below the contract low that precedes the entry.

Meal/Bean Spread: Is the Blast Over? Sure Looks Like It

What Goes Up…

Must come down!  Eventually.  Based on yesterday’s close, now might be the time for the Dec-Nov soy meal (x2)/soybean spread to do so.

This spread closed below the rising 30-day Moving Average yesterday for the first time since early April.  This triggered the blog’s short sale signal.

Dec-Nov Soy Meal Soybean (x2) spread daily

Dec-Nov Soy Meal Soybean (x2) spread daily

The IMC blog entered a hypothetical short position when it sold two 100-ton December soy meal contracts at $381.00 (total value of $76,200) and bought one 5,000 bushel November soybean contract at $11.01 1/2 (contract value of $55,075).  This puts us short at +$21,125 (premium meal).  We will initially risk the trade to a two-consecutive day close above +$24,250 (premium beans).

If/when the spread gives us some setups for pyramiding, we will be sure to address it.  But if you have your own methodologies for doing so, don’t wait around for us!  Take advantage of it.  This could be just the start of a beautiful bear market.

Soybean/Cotton Spread: Bearish Trend Change Triggered!

The Great Unraveling…Hopefully

Yesterday the Nov-Dec bean/cotton spread closed below the rising 30-day Moving Average for the first time since the first week of 2016.  This signaled a bearish trend change and elected the blog’s criteria for a hypothetical short sale.

The November soybean contract was sold short at $11.01 1/4 (contract value of $55,075) and the December cotton contract was purchased at 65.42 (contract value of $32,710).  This puts us in the spread at +$22,365 (premium beans).  Initially, we are risking a two-consecutive day close above +$26,400 (premium beans).

Nov-Dec 2016 soybean cotton spread daily

Nov-Dec 2016 soybean cotton spread daily

Recall from the previous post that prior excursions to +$20,000 (premium beans) or higher have been followed by bear markets that took the spread down to at least even money.  Therefore, we anticipate that we’ll see some pyramiding opportunities to take full advantage of the decline.  Once we have a big enough open profit on this trade we will examine the market volatility and price patterns to determine the best course of action for ‘add-on’ trades.

Gasoline/Crude Oil Spread: Roll To August

Extending Our Lease

The IMC blog is holding a hypothetical short position in the July RBOB gasoline/crude oil spread that was entered at the equivalent of $19.61 (premium gasoline) on January 15th.

July RBOB Gasoline Crude Oil spread daily

July RBOB Gasoline Crude Oil spread daily

The big break in the energy markets pushed the July spread down faster than the longer delivery spreads.  Since the July spread has to be rolled or liquidated next week anyhow, we’re going to take advantage of today’s break and roll at the close.

August RBOB Gasoline Crude Oil spread daily

August RBOB Gasoline Crude Oil spread daily

The August spread is currently trading almost $1.50 higher than the July spread.  In addition, the current 2016 high for the August spread is $1.40 lower than the 2016 high for the July spread.  Therefore, rolling to the August spread now and risking to new highs greatly reduces the risk on the trade.  Whenever you can reduce your risk and keep the profit potential the same, you’ve got a no-brainer situation.  Those are usually only obvious in hindsight, so let’s accept this gift that the energy markets have bestowed up on today.

Trade Strategy:

For tracking purposes, the blog will liquidate the short position in the July RBOB gasoline/crude oil spread and simultaneously enter a short position in the August RBOB gasoline/crude oil spread at the market-on-close on Friday, June 24th.  Risk a two-consecutive day close above $21.30.

Gold/Crude Spread: Short Position Entered

Yellow Beats Black…For Today

The Brexit vote created chaos in every market on the planet today.  Gold was one of the safe-haven beneficiaries –it made the biggest one-day gain since the depths of the financial crisis in 2008 and traded with three times the average daily volume- and crude oil slumped.  Don’t be surprised if you turn on the radio today and hear R.E.M. blasting out It’s the End of the World As We Know It…but do be concerned if you call your broker (who actually does that anymore?) and that’s the music on hold!

December Gold Crude Oil (x3) spread 15-minute

December Gold Crude Oil (x3) spread 15-minute

The divergence between the two markets was enough to get IMC into the gold/crude (x3) spread.  The blog sold one 100 oz. December gold contract at $1,338.00 (value of $133,800) and simultaneously bought three December 1,000 barrel crude oil contracts at $49.60 (total value of $148,800).  This put the spread on at a price of -$15,000 (premium crude).  Initially, the spread will be liquidated on a two-consecutive day close above -$9,000 (premium crude).

Better strap yourself in.  We don’t know if everything will be factored into the markets by today’s close or if this is just the beginning of the next financial crisis.  We can’t control what the markets do.  However, we can control what we do.  Manage your risk wisely and focus on proper position-sizing.

Meal/Bean Spread: Ripe For a Bear Market

Another Soy Play

Yesterday we posted an article on the spread between soy meal and bean oil.  Today we also want to point out an opportunity in the spread between meal and soybeans.  Remember, meal is a direct derivative of the beans, much like gasoline is a direct derivative of crude oil.  So a strong price correlation between the two should come as no surprise.

Soybeans Soy Meal overlay weekly

Soybeans Soy Meal overlay weekly

Take a glance at the last forty-five years of weekly closing prices of soy meal and soybeans.  The charts show an undeniable link between the price action and trends of these two markets.

The Bean/Meal Ratio

On the weekly nearest-futures chart, the ratio between the value of one 5,000 bushel soybean contract and the value of one 100-ton soy meal futures contract recently sank to a one and a half year low of 1.35:1.  Historically, the ratio has only dropped below 1.4:1 about half a dozen times in the last forty-five years.  Therefore, it’s worth paying attention to.

Soybeans Soy Meal ratio weekly

Soybeans Soy Meal ratio weekly

Prior drops below 1.4:1 have been followed by multi-month and even multi-year rallies.  So the recent drop below 1.4:1 tells us that the stage for a major rally is being set.  Using this precedent, it makes sense to start watching for trend change signals to time the turnaround.

Spread It Out

We’re going to take a look at spread between the value of the sum of two soy meal contracts and one soybean contract.

At the June 10th high, two December soy meal contracts were valued at a premium of +$23,722.50 over the value of one November soybean contract.  Historically, the spread has been a great short sale candidate whenever the meal reached a premium of +$20k or more over the beans.

Soy Meal Soybean (x2) spread weekly

Soy Meal Soybean (x2) spread weekly

Prior tops at +$20k or higher (premium meal) were followed by drops back under +$9k (premium meal).  Tops above +$20k (premium meal) prior to the 2012 drought were even followed by bear markets that took the spread back to ‘even money’ or lower.  In light of this, a spread trader should be watching for a place to short the soy meal (x2)/soybean spread when it rolls over.

Trend Change Signal

After establishing the contract low in early April, the Dec-Nov soy meal (x2)/soybean spread has rocketed higher.  It posted new contract highs just six weeks after the contract low and continued to run several thousand dollars more.

Dec-Nov Soy Meal Soybean (x2) spread daily

Dec-Nov Soy Meal Soybean (x2) spread daily

All good things come to an end.  Since the spread has closed above the rising 30-day Moving Average every single day for more than two months straight, a close back below the 30-day MA could indicate that the end has arrived.  If so, the blog will take a crack at the short side of the soy meal (x2)/soybean spread.

Trade Strategy:

The blog will work a hypothetical order to sell two 100-ton December soy meal contracts and simultaneously buy one 5,000 bushel November soybean contract if the spread closes below the rising 30-day MA (currently around +$21,725).  If filled, exit on a two-day close $500 above the contract high that precedes the entry.

Soy Meal/Bean Oil Spread: What Goes Up…

Crushin’ It

The IMC blog has traded the soy meal/bean oil spread a few times.  As a quick review, these two markets are the products of a crushed soybean.  Not surprisingly, the correlation between them is quite strong.

Soy Meal Bean Oil overlay weekly

Soy Meal Bean Oil overlay weekly

However, there are still periods where one of the markets will substantially outperform the other.  There are also times when one market will make a trend reversal before the other.  These occasions can offer spread trade opportunities.

Getting Pricey

Over the last couple of months, the soy complex has been ripping higher.  Soy meal has led the pack as it has outperformed both the soybeans and the bean oil.

About a month ago, the ratio between the value of one 100-ton soy meal futures contract and the value of one 60,000 lb. bean oil contract reached 2:1.  At this level, the meal was worth twice as much as the bean oil.

Soy Meal Bean Oil ratio weekly

Soy Meal Bean Oil ratio weekly

Historically, this is pretty expensive for soy meal.  The meal/oil ratio has only reached 2:1 or higher (basis the nearest-futures weekly chart) a handful of times in the last forty-five years.

The weekly close of 2.14:1 that was posted four weeks ago took the spread a hair beyond the 1997 multi-decade high of 2.13:1.  This puts it in close proximity to the 2000 high of 2.24:1 and the 2014 forty-one year high of 2.29:1.

How’d It Work Out?

In the past, anytime the meal/oil ratio has only reached 2:1 or higher it has ultimately reversed.  Major bear markets followed.

The historic 1973 top at 3.47:1 was followed by a bear market that took the ratio to 0.53:1 (where a soy meal contract was worth about half of a bean oil contract) fifteen months later.

The meal/oil ratio made a double top at 1.98:1 in 1987 and 1989 (not quite 2:1, but close enough for demonstration purposes) and then sank to 1.16:1 by the summer of 1990.

In the spring of 1997, the ratio crested at 2.13:1.  Just sixteen months later, it bottomed out at a thirteen-year low of 0.81:1.

The meal/oil ratio punched through 2:1 again in 2000 and peaked at 2.24:1 and in the second-to-last week of the year.  Just three months later, it was at 1.53:1.  The bear market actually didn’t end until twenty-three months after the top when the ratio finally bottomed at 1.21:1 in November of 2002.

Although it wasn’t quite 2:1, the ratio hit 1.95:1 in the summer of 2004 and dropped to 1.15:1 by the time harvest rolled around a few months later.  It peaked at 1.95:1 again in the summer of 2009 and dropped to 1.06:1 nine months later.

The last time the meal/oil ratio reached 2:1 was two years ago.  The peak was established in August at a forty-one year high of 2.29:1.  By the summer of 2015 the ratio was as low as 1.46:1 and as recently as April 2016 the ratio bottomed at 1.32:1.

These historical examples certainly are not a crystal ball that tells us what will happen in the future.  However, it tells us what the behavior pattern has been and, therefore, what the likely outcome will be.  Therefore, the smart money will bet on a bear market in the meal/oil ratio and get on the short side at some point.

The Soy Spread Says…

Now it’s time to examine the spread between soy meal and bean oil.  Since the meal/oil ratio reached 2:1, we will normalize the spread by comparing the value of one soy meal contract against the value of the sum of two bean oil contracts.

At today’s close, one September soy meal contract is at a premium of +$1,060 over the value of two September bean oil contracts.  So far, the spread has been as high as +$1,982.

Prior occasions where the spread reached a premium on the soy meal side were followed by sizable declines.

Soy Meal Bean Oil (x2) spread weekly

Soy Meal Bean Oil (x2) spread weekly

The soy meal/bean oil (x2) spread hit a record high of +$16,760 (premium meal) in the summer of 1973 and then crashed to a low of -$38,950 (premium bean oil) by the fall of 1974.

In 1987, the spread didn’t quite get to where meal had the premium…but it got awfully close.  The spread peaked at -$238 (premium bean oil) in November of that year and hit -$9,950 (premium bean oil) the following summer.  It ramped back up to -$330 (premium bean oil) in January 1989 and started its journey toward -$12,430 (premium bean oil) by the summer of 1990.

The soy meal/bean oil (x2) spread reached +$1,802 (premium meal) in the spring of 1997 and chopped back and forth for a few months.  It gave up the ghost in September and the bear market that followed dragged it down to -$19,524 (premium bean oil) by the spring of 1998.

Meal gained the premium again in late 2000.  It topped at +$2,104 (premium meal) at the end of the year.  A twenty-three month bear market dropped it to -$10,774 (premium bean oil) by November 2002.

The last time the soy meal/bean oil (x2) spread went positive was in 2014.  The top was established at a forty-one year high of +$5,502 (premium meal) in August.  A volatile bear market, full of fast breaks and huge bounces, took it down to -$14,110 (premium bean oil) by the end of Q1 this year.

Just like we saw with the ratio, the current high reading in the soy meal/bean oil (x2) spread indicates that it is ripe for a significant bear market.  Prior declines point to the possibility that a decline of several thousands of dollars should eventually take place.

Trend Change Signal

The September soy meal/bean oil (x2) spread has been climbing for the last two and a half months.  The 30-day Moving Average has been progressing higher for about two months and the spread has closed above the 30-day MA every single day since the first half of April.  This is a strong uptrend.

Furthermore, the September soy meal/bean oil (x2) spread cleared resistance at its 2015 high of -$2,518 (premium bean oil) on May 19th and has never been back below it.  This is a breakout market.

September Soy Meal Bean Oil (x2) spread daily

September Soy Meal Bean Oil (x2) spread daily

At the very least, a close below the 30-day MA for the first time April 11th could indicate that the run has lost its momentum.  It may even mean that the run is over.  A close back under the August 2015 high of -$2,518 (premium bean oil) should confirm it.

So here’s our plan: The IMC blog will get positioned on the short side once the 30-day MA is breached and consider increasing the position size once the spread is back under the 2015 top.

Trade Strategy:

The blog will work a hypothetical order to sell one 100-ton September soy meal contract and simultaneously buy two 60,000 lb. September bean oil contracts if the spread closes below the rising 30-day MA (currently around -$281).  If filled, exit on a two-day close $500 above the contract high that precedes the entry.