Cocoa/Sugar Spread: Getting Off the Ride

The Bear Campaign

The IMC blog began a short-selling campaign in the cocoa/sugar spread at the end of September 2015.  The nearly one and a half year ride came to an end last week when the spread finally made a two-consecutive day close above the declining 100-day Moving Average, basis the nearest-futures.  This was the first such occurrence since late April of last year.

Due to ‘add-on’ positions after the trade was initiated, several rollovers, and a change in the spread ratio, the blog was short the May cocoa/sugar spread from the equivalents of +$21,514.80, +$18,158.60, +$14,949.20, and +$1,199.20.  The premium on all the spreads was to the cocoa contract value.

Cocoa Sugar spread daily (100-day MA)

Cocoa Sugar spread daily (100-day MA)

The exit price occurred at the March 14th close at +$240.80, which happened to be the first time this year that the value of the cocoa contract closed at a premium to the value of the sugar contract.

The Results Are In

Excluding commissions, the trade resulted in a total profit of +$54,858.60.  When you take into account the fact that the initial risk in the trade was $5,409.20 (based on the September 30, 2015 entry) the trade resulted in a ten-fold return.

Ironically, the initial risk when the trade was entered was more than double what I had anticipated.  The reason for that was because the spread reversed from a multi-year high to a two and a half month low in just five trading days.  If the volatility had not spiked via a big expansion in the trading range, the trade could have produced a return of at least 20-to-1.  But hey, we have no reason to complain when we still made a profit that was ten times the risk!

Staying On the Radar

Although the blog is no longer in the cocoa/sugar spread, it does not mean that we will forget about it.  As a matter of fact, we are watching (and hoping!) to see if the bullish trend change will fail and put the spread back on track for new lows.

So far, the contract low for the May cocoa/sugar spread was established on Valentine’s Day at a low of -$3,764.40 (premium sugar).  If we are lucky, the spread will return to this level and maybe even break below it.

May Cocoa Sugar spread daily

May Cocoa Sugar spread daily

Does that mean we are looking to reenter a short position?  Not exactly.  The blog aims to initiate a trade position after a spread has come off of an extreme reading where prior price excursions have proven rare and unsustainable.  Furthermore, it has to be in the direction of a trend that is in agreement with a historical reversion to the mean.  These requirements currently exclude a short sale on the cocoa/sugar spread.

Bears Breed…Bulls?!

The reason that we are hoping for a break to new lows is because it would put the cocoa/sugar spread on our candidate list for a potential trade on the long side.

Say what?!

Yep, you read that right.  We will be looking for a setup to go long on the spread.  Historically, bear markets in the cocoa/sugar spread have been near completion when the spread has declined below -$3,500 (premium sugar).

After a month end close below -$3,500 (premium sugar) on the nearest-futures monthly chart, the spread has usually bottomed out within a few months.  The longest it took was seven months when the spread closed below -$3,500 in June 1989 and hit the final closing low in January 1990.  Furthermore, the spread has never stayed below -$3,500 on a monthly closing-basis for more than a year.

Cocoa Sugar spread (nearest-futures) monthly

Cocoa Sugar spread (nearest-futures) monthly

Here’s the catch, though: although the cocoa/sugar spread closed below -$3,500 on the daily timeframe last month, it has not yet closed below -$3,500 on the nearest-futures monthly timeframe.  Last month’s close was -$2,107.60.  Therefore, the spread still hasn’t triggered our qualification for a trade candidate on the long side.

Even though we don’t currently see anything to do in the cocoa/sugar spread, now you know why we are continuing to at least monitor it.  I highly suggest you put this on your watch list as well.

 

Copper/Gold Spread: Stay Long For More Upside

Keep ‘Em Rollin’

Currently, the blog is holding a long position in the March-February copper(x2)/gold spread from the equivalent of -$22,700 (premium gold).  It was entered on September 29th.

We’re still happy with the position.  But with the February gold contract expiring on Friday and the First Notice Day for the March copper contract hitting next Tuesday, it’s time to roll out into the later contracts.  Since the summer spread (July-June) is only about $300 more than the spring spread (May-April), we’re going to opt for more time and hop into the summer spread.

Since peaking out just above +$17k (premium copper) on December 5th, the July-June copper(x2)/gold spread has been stuck in a trading range.  The spread clipped the December 5th high last week, but has retreated once again.  What we need to see is a sustained close above the early December/mid-February high to get the momentum going again.  If that happens, the spread will stay on track for a run to the resistance zone between the 2015 high of +$28,190 (premium copper) and the November 2014 high of +$34,380 (premium copper).

july-june-copper-gold-spread-daily

July June Copper Gold spread daily

But remember that we mentioned before that the ratio between copper and gold (currently around 0.56:1) indicates that the spread could go substantially higher than the 2014/2015 price peaks!  Historically, prior occurrences where two copper contracts traded equal to or at a discount to the value of one gold contract were followed by major bull markets.  Each one lasted until two copper contracts were valued at a minimum premium of 66% over the value of one gold contract.  That puts the ratio at 1.66:1.

To hit this minimum ratio target of 1.66:1, the copper(x2)/gold spread would have to soar to somewhere between roughly +$53k (if the current copper price remained the same) and roughly +$78k (if the current gold price remained the same).

Based on this history, we are watching the spread carefully to see if a setup materializes to add to the long position after a breakout above the current trading range.  We’ll keep you posted if that happens.  For now, though, let’s roll out to the summer contracts.

Trade Strategy:

Sell the two March copper contracts and simultaneously buy two July copper contracts at the market-on-close on Wednesday, February 22nd.  Also, buy back the one short February gold contract and simultaneously sell one June gold contract at the market-on-close on Wednesday, February 22nd.

 

Sugar/Corn Spread: Strap In For the Next Bear Market

Early Stage Bear Market

The spread between sugar and corn may have ended a four-year bull market right when Q4 started last year.  If so, historical precedent suggests that it could now be at the very start of a multi-year decline.  That means there should be plenty of opportunity, both in terms of time and price, to take advantage of it.  Spread traders would be wise to start paying attention to this one.

To even consider a potential spread trade, though, the IMC blog first likes to establish that the markets in question have historically exhibited a strong correlation.  It can’t be just a short-term fluke.

In the past, there have been strange anomaly periods where markets with no fundamental relationship (like soybeans and silver, for example) were somehow highly-correlated for a few months.  But that certainly doesn’t mean that it’s got the makings of a good spread trade candidate.

There have also been market crisis situations where markets that are normally unrelated all go to a correlation of one.  Remember the crash of ’87 or the Great Financial Crisis of ’08?  The temporary strong correlation of all markets was the product of a liquidity crisis and dissipated once the crisis has passed.

Therefore, we want to see decades of price history where a couple of markets have shown correlation.

Cousins, Not Twins

Go back the last thirty-five years on a weekly closing-basis, and you will see that the prices of sugar and corn are pretty correlated.  This is likely due to the fact that both markets are used as derivatives to produce ethanol.  Also, sugar and corn syrup are both used as sweeteners in food products.

Now, you’ll also notice that the correlation would strengthen and weaken.  This ebb and flow of correlation is because the crops have some different uses, different main production areas, and several other fundamental differences that can impact one crop without directly impacting the other.  So they may not look exactly like identical twins when you compare the charts, but they at least look related enough to be first cousins!

sugar-corn-overlay-nearest-futures-weekly

Sugar Corn overlay (nearest-futures) weekly

Despite the inconsistency in the correlation periods –heck, maybe even because of it- the spread between sugar and corn has offered some great trading opportunities.  This often was the case after one market had outperformed the other for a prolonged period of time or when there was a temporary disconnect where one market was trending while the other was static or even trending in the opposite direction.  Eventually, this divergence would end and a major price reversal in the spread would occur.

Historical Price Boundaries

A sugar futures contract controls 112,000 pounds of sugar and a corn futures contract controls 5,000 bushels of corn.  So the blog converts the contracts to their market value before plotting a spread in order to simplify and clarify things.

About four months ago, the nearest-futures sugar contract was worth almost +$9,300 more a nearest-futures corn contract.  Not only was this significant by being the highest premium in over six and a half years, but it was also only the fourth time in the last four decades that a sugar contract has ever reached a premium of +$9k or more over a corn contract.  The prior three occurrences were followed my multi-year bear markets.  Therefore, it would not be surprising if a major decline was on the horizon.

sugar-corn-spread-nearest-futures-weeklyFor how long?  And, more importantly, how big?!

Consider the prior three bear markets that started above the +$9k mark:

The bear market that started from the October 1980 top lasted three years and nine months.  The decline from top to bottom was approximately $44,300.

The bear market that started from the January 2006 top lasted two years and six months.  The decline from top to bottom was approximately $35,300.

The bear market that started from the January 2010 top lasted two years and seven months.  The decline from top to bottom was approximately $33,800.

The sugar/corn spread seems to act like a pendulum.  After reaching an extreme on the high side, the bear markets that followed these three peaks crushed the spread to levels rarely seen on the downside.  You can see that there have only been a few instances where the sugar contract value traded at a discount of -$12k or more to the value of a corn contract.  Down at those levels, the spread always turned out to be a great buying opportunity again!

This price history certainly does not guarantee that the sugar/corn spread will drop tens of thousands of dollars over the next two or three years.  But it does show us what occurred before, which tells us the potential and the probabilities of what could occur.

The Ratio Test

As always, we like to look at the ratio between the markets as well.  This helps normalize the prices.  It’s a filter that tells us if the market relationship really is truly at an extreme level by historical standards.

In early October the nearest-futures sugar/corn ratio peaked at 1.54:1.  So the value of a sugar contract was worth 54% more than the value of a corn contract.  Looking at the weekly price data of the last forty years, this was only the fifth bull market that pushed the ratio to 1.5:1 or higher.  Therefore, the ratio confirms what the spread is telling us: Sugar is just way to expensive in comparison to corn.

sugar-corn-ratio-nearest-futures-weekly

Sugar Corn ratio (nearest-futures) weekly

On the other side of the coin, sugar is historically too cheap in comparison to corn when the ratio drops to 0.5:1 or lower.  At that point, one sugar contract is worth only half as much as a corn contract.  That hasn’t happened since the financial crisis.

The Price Action

Over the last two and a half years, the 150-day Moving Average has been a reliable trend indicator for the nearest-futures sugar/corn spread.  When the spread closed below the 150-day MA at the end of November 2014 it continued its descent until August of 2015.

After a failed breakout above the 150-day MA in the first part of September 2015, the spread made a second attempt at the end of the month and was successful.  This launched a runaway move that lasted for about a year.

sugar-corn-spread-nearest-futures-daily

Sugar Corn spread (nearest-futures) daily

Now, I do want to point out that two failed bearish trend change signals occurred in February and April of 2016.  However, both signals were reversed within a couple of days.

Two months ago, the nearest-futures sugar/corn spread made a clean break below the 150-day MA.  It has stayed below it the whole time since.  Therefore, a trend follower would have to consider the spread to be in a bearish trend at the moment.

Zeroing In

On the nearest-futures chart, the sugar/corn spread rallied off the December low and has been stuck in consolidation mode for the last month.  The spread scraped against resistance at the 150-day MA.  If it starts to roll over here, a second leg down could commence.

Looking at the May sugar/corn spread specifically, we can speed things up a bit and measure the trend according to the 50-day Moving Average.  When this spread cracked the 50-day MA in October it signaled a bearish trend change.  The spread then closed back above the 50-day MA again once the New Year began and turned bullish.

Interestingly, the uptrend did not continue after the January trend change signal.  The May sugar/corn spread has been stuck in a sideways trading range.  A break below the January low and close back under the 50-day MA would put the ball back in the bear’s court.

may-sugar-corn-spread-daily

May Sugar Corn spread daily

Let’s put this all in context.  The fact that the nearest-futures spread peaked last year at levels that have previously led to major bear markets…

The fact that the sugar/corn ratio also reached historic extremes that have always been unsustainable…

The fact that the spread is still in a downtrend on the nearest-futures chart by virtue of the fact that it remains below the 150-day MA…

One would have to think that selling the May sugar/corn spread on a close below the 50-day MA would be a trade worth taking!

Trade Strategy:

Place a hypothetical contingency order to sell one 112,000 lb. May sugar contract and simultaneously buy one 5,000 bushel May corn contract if the spread closes below the 50-day MA (currently around +$3,666).  If filled, liquidate the position on a two-consecutive day close $500 above the 2017 high that precedes the entry (currently at +$4,923.90). 

Cattle/Hog Spread: Roll to the April Contracts

When Pigs Trump Cows

On October 12th the blog initiated a theoretical short position in the livestock markets by selling one February live cattle contract at 99.525 and simultaneously buying two February lean hog contracts at 50.925.  This positioned us in the spread at a price of -2.325 cents as the sum of the price of two hog contracts was worth about two and one-third of a cent more than the price of one cattle contract.

We got into the position when the ratio was just below 2:1.  As you recall from an earlier post, there were only about half a dozen times in the last few decades where the cow/pig ratio made it as high as 2:1 or more.  Therefore, we figured a short sale after peaking above 2:1 would put the historical odds in our favor as we bet that the hog market would start to outperform the cattle market.

Still Going

Yesterday the February cattle/hog ratio closed at a low of 1.63:1, matching the contract low set back in June.  Things are going well!  The problem is that the February contracts go off the board in a few days.  That means we have to book the trade or roll over.

So what to do?

First of all, consider the fact that all but one of the declines that started from a peak of 2:1 or higher took the ratio below 1.1:1.  The one exception still took the ratio below 1.4:1.  Therefore, history implies that the bear market is not close to finished yet.  So it makes sense to stay short as long as the downtrend is still intact.

live-cattle-lean-hog-ratio-nearest-futures-monthly

Live Cattle Lean Hog ratio (nearest-futures) monthly

Secondly, we have to consider the rollover costs.  The April cow/pig ratio closed at a multi-month low of 1.62:1 yesterday and the June cow/pig ratio closed at a multi-month low of 1.34:1.  That April ratio is similar to the closing price of the February ratio of 1.63:1, but the June ratio is significantly below the closing price of the February ratio.  Based on this, it makes sense to roll to the April spread to get a couple more months of time out of the trade, but it does not make sense to think about switching to the June spread yet.

Trade Strategy:

On the hypothetical short February live cattle/lean hog (x2) spread entered at -2.325 (premium hogs), roll to the April contracts at the market-on-close on Tuesday, February 7th.

Grain Basket Spread: Is the Bear Coming Out of Hibernation?

The Grain Basket Spread

I’ve traded the spread between soybeans and the sum of wheat and corn for many years and I’ve also posted about it on this blog a few times.  I nicknamed this spread the grain basket.  And sometimes it has been known to make baskets of money!  Based on current conditions, it appears that the grain basket spread may be shaping up for a new trading opportunity.

Price Correlation

Historically, the price relationship between soybeans, wheat, and corn has mostly been a highly-correlated affair.  Notice the word “mostly.”  There have been times when the correlation seemed to weaken.

For instance, we’ve seen a drought in Russia scorch the wheat crops and send wheat prices rocketing while it had no effect on world prices of beans and corn.  There have also been major hits to the South American bean crop that sent US soybeans to the moon, while corn was up modestly and wheat did nothing.

soybeans-wheat-corn-overlay-nearest-futures-monthly

Soybeans Wheat Corn overlay (nearest-futures) monthly

These divergent moves produced a drop in correlation, but they have always proved to be temporary events.  Over the long haul, the three grains have always gotten back in sync.  That’s what makes them such an attractive candidate for spread trades.

Historical Boundaries

As readers know, the IMC blog only takes an interest in the spreads that are at historical extremes.  Due to the mean-reverting nature of commodities, we believe that a spread trading at an historical extreme has a high-probability of making a sizable reversal and is worth betting on.  The trick, of course, is timing that reversal.

So what constitutes as an historical extreme?  Good question.  Here’s my way of looking at it.

Initially, a spread that has moved more than two standard deviations from the mean is a good candidate.  Remember, roughly 95% of all data values in a data distribution fall within two standard deviations from the mean.  So once a spread gets past the two standard deviation signpost, it’s stretched pretty thin.

Now, if you want to break it down into even simpler terms and shoot for a less technical answer, how about this: a spread is considered to be trading at an historical extreme when it reaches a price level that has only been reached infrequently (if ever) and has never been a sustainable level.

Using the grain basket spread as our example, take a look at nearly half a century of monthly price history.  Notice that there have only been a total of six bull markets that ran the spread up to three dollars or higher (premium beans).  Also, the longest consecutive run of month-end closes at three dollars or higher was four months.  Therefore, we can consider the spread to be “expensive” and at an historical extreme when beans command a premium of $3-per-bushel over the sum of wheat and corn.

grain-basket-spread-nearest-futures-monthly

Grain Basket spread (nearest-futures) monthly

Conversely, we can consider the grain basket spread to be “dirt cheap” and at an historical extreme when the sum of wheat and corn gain the upper hand and trade at a premium of two dollars or more over the price of soybeans.  Only three bear markets in the last fifty years have brought the spread to levels that low!

Grain Expectations

First off, let’s establish this basic and very important fact: It is absolutely impossible to know with certainly what the future will be.  Otherwise, palm readers and tarot card shops would not be located on the sketchy side of town.  And people who use Ouija boards and Magic 8 Balls would have their own yachts.

But what we can know is what the outcome probabilities are for future events.

There is a very important difference here.

That being said, notice that all six of the bull markets that ran the grain basket spread to three dollars or higher (premium beans) were followed by bear markets that erased the entire premium from the beans.

Therefore, a trader who gets positioned on the short side of the grain basket spread after a reversal signal occurs at $3-per-bushel or higher should be targeting a return to ‘even money’ or lower.  This will help you assess the reward-to-risk ratio on your trade setups and pyramid positions.

The Improbable Still Happens

Although I just picked on the fortune tellers for trying to divine the future, it does not mean that people like us who focus on the probabilities are completely off the hook.  Some people tend to forget that probabilities are not guarantees.  The improbable still happens!  And sometimes more often than we’d like to think.

Consider the Chicago Cubs winning the World Series last year or the Patriots coming back to win the Super Bowl in overtime last night…

Or the Brexit vote last summer or Trump’s election victory three months ago!

This is why you have to learn to bet according to the probabilities to become a good trader, but then you have to learn to manage risk according to the possibilities to become a great trader.

Current Outlook

The May grain basket spread (the difference between the price of one May soybean contract and the sum of one May wheat contract and one May corn contract) broke out of a multi-month trading range at the end of 2015 and has been trending higher since then.

During this bull run, the spread stayed above technical support at the rising 100-day Moving Average…until a month ago when it made a two-day close below the 100-day MA for the first time in over a year.

may-grain-basket-spread-dailyThe spread quickly rebounded and recovered nearly three-quarters of the pullback from the December peak.  However, prices softened over the last couple of weeks and the 100-day MA is being tested once again.

If the mid-January bounce turns out to be a secondary (lower) high and the May grain basket spread closes back under the 100-day MA, it may be time to start betting that the bull market is over.

Trade Strategy:

For tracking purposes, the blog will make a hypothetical trade by selling one 5,000 bushel May soybean contract and simultaneously buying one 5,000 bushel May wheat contract and buying one 5,000 bushel May corn contract if the spread between soybeans and the sum of the wheat and corn closes below the rising 100-day Moving Average (currently at +$2.22 1/4).  If filled, risk a two-day close of 5 cents above the contract high that precedes the entry. 

T-bond/T-note Spread: Time to Get Short?

Dead Cat Bounce

The US treasury market spent the last half of 2017 going straight down.  An improving economy, a December rate hike with the prospect of more to come, the post-election stock market explosion, and ideas that a Trump victory will make things even better have caused traders and investors to abandon bonds as quick as possible.

For the last month, however, the treasury market has bounced back on ideas that the meltdown has been overdone.  From a technical standpoint, this looks like nothing more than a “dead cat bounce” or a correction in an overall downtrend.  If so, this is a short sale opportunity.

Yield Curve Spread

As readers know, the IMC blog is all about trading the intermarket spreads.  Treasuries are no exception.  Therefore, our interest lies in identifying trade opportunities in the T-bond/T-note spread.  Old time traders may remember this one as the NOB spread (Notes Over Bonds).

One thing you may notice on the blog is that we often trade the T-bond/T-note spread at a ratio of 1:1.  Many yield curve traders do this spread at a ratio of 3:1 where they have three ten-year note contracts for every one thirty-year bond contract.  This is done to account for the higher volatility on the longer end of the yield curve and smooth out some of the volatility.

The reason I have always done a ratio of 1:1 is to get positioned for a more directional bet.  This allows me to take a smaller spread position that I would have to do with a 3:1 ratio to match my risk appetite.  It also means I pay less in commissions.

There’s no right or wrong here.  It’s a choice to make based on your personal preference.

The Last Few Weeks

The nearest-futures T-bond/T-note spread rallied nearly three full points off the December multi-month low.  This bounce is a little bigger than the two and a quarter point bounce off the September low.

So either this is an ‘overbalancing of price’ that marks a trend change…or it’s the perfect place for the decline to quickly resume and take the T-bond/T-note spread to new lows.

I’m sure someone reading this is saying, “Gee, smart guy, that’s not much help.  You’re saying it could go either way then!”  Well, that’s just the first observation of the recent price action.  Let me put another layer of technical analysis on top of that to bring some more clarity.

Trend Parameters

Most market technicians are familiar with the 200-day Moving Average.  It’s probably one of the first things you learned about when you started charting.  The 200-day MA is a cornerstone metric used to determine the long-term market trend.

In late February of 2014, the nearest-futures T-bond/T-note spread made a sustained close above the 200-day MA for the first time in nine months.  This bullish trend change signal did its job well as it carried the spread higher for nearly two and a half years.

Who says that trend following is dead?!

Now, we do have to acknowledge that there was a brief period of choppiness in late 2015 when the spread dropped below the 200-day MA in the first part of November for a few days and recovered.  It then dipped back under the 200-day MA again for a few days at the December and recovered right after the new year began.  These were both false bearish trend change signals.  Other than that, though, the spread maintained itself above the 200-day MA.  So it still works a lot more often than not.

After topping at a record high last July, the spread pulled back, hit a trading range for several weeks, and then started to work lower again right after Labor Day.

On September 16th the T-bond/T-note spread came within spitting distance of that widely-watched 200-day MA.  Apparently, the significance was not lost on market participants because that’s where the big bounce happened that we talked about earlier.

The Game Changer

The bounce off the mid-September low faded as the third quarter drew to a close.  Then something very significant happened in the first week of October: the T-bond/T-note spread dropped to a new multi-month low and made a sustained close below the 200-day MA for the first time since the first week of 2016.

This was a major bearish trend change signal.

t-bond-t-note-spread-200-ma-daily

T-bond T-note spread (200-day MA) daily

Over the next two months, the T-bond/T-note spread dropped an additional nine full points.  That’s a big deal in Treasuries!  This spread is in a bear market, folks.

Zooming In

Take a look at how the spread has reacted to the 50-day Moving Average as well.  After peaking in early July and then hitting a trading range in August, the T-bond/T-note spread made a two-day below the 50-day MA for the first time in over three months.

In the first part of September, the 50-day MA also started to roll over.  This tipped the scales further in favor of the bears.

t-bond-t-note-spread-50-ma-daily

T-bond T-note spread (50-day MA) daily

Interestingly, the rally off the December low pushed the spread up enough to finally get a close back above the 50-day MA this week.  This is either an early warning that a bullish trend change is coming or it’s the maximum stretch point before the rubber band snaps back.

The spread is starting to sell off today.  A close under the 50-day MA today could indicate that technical resistance held and that the bounce is over.  Therefore, this provides a setup for a short sale.  We are willing to take it and see if this Friday the Thirteenth is our lucky day.

march-t-bond-t-note-spread-daily

March T-bond T-note spread daily

Here’s one more for the road: On November 3rd the 50-day MA closed below the 200-day MA for the first time in nearly nine months.  This was a classic death cross signal.  Who wants to fade that?!

t-bond-t-note-spread-50-and-200-ma-daily

T-bond T-note spread (50-day and 200-day MA) daily

Trade Strategy:

T-bond/T-note Spread

The blog will make a hypothetical trade by shorting one March T-bond contract and simultaneously buying one March T-note contract if the spread closes below the 50-day Moving Average (currently at 27-01).  Initially, the spread will be liquidated on a two-consecutive day close 8/32nds (one-quarter of a point) above the 2017 high (currently at 28-00).

Platinum/Gold Spread: Roll to the April Contracts

The Long Road

In September of 2015, the IMC blog bought an unleveraged platinum/gold spread at the equivalent of -$201.20 (premium gold).

We added leverage in April 2016 when we purchased an ‘add-on’ investment position, but the spread moved adversely and knocked this one out a couple of months later.

So far, this position has not made us any money.  But we will continue to pursue it.

Why?!

First of all, commodity spreads show a strong tendency of mean reversion over time.  The platinum/gold spread is no different.

Secondly, the spread has set new records in terms of both price and time this year.  Since it’s a mean-reverting spread, the new price and time extremes should only increase the probabilities of a severe snapback in the future.

On June 27th, the platinum/gold spread sank to an all-time low of -$343.30 (premium gold).  It then came close to matching it on October 21st when it hit -$337.30 (premium gold).  Interestingly, the platinum/gold ratio touched a thirty-three year low of 0.74:1 on June 27th and then hit a slightly lower low of 0.7335:1 on October 21st.  The ratio hasn’t been down there since October of 1982.

platinum-gold-spread-nearest-futures-weekly

Platinum Gold spread (nearest-futures) weekly

In terms of time, we are only three weeks away from marking the two-year anniversary of platinum trading at a discount to gold.  This broke the previous record inversion streak of one year and seven months that occurred from September 1981 and April 1983.

So even though the platinum/gold spread has not performed for us yet, we will continue to exercise patience and money management so we can stick to the original plan.  It’s nothing more than a waiting game right now.

Investment Strategy:

For tracking purposes, the blog will liquidate the long January-February platinum/gold spread investment position and simultaneously enter a long investment position in the April platinum/gold spread at the market-on-close on Tuesday, December 27th.  There are currently no liquidation parameters for this low-leverage position.  Factoring in the results of one ‘add-on’ investment position, the bankroll for this spread is currently $101,920.

Bund/BOBL Spread: Roll With the Bear

Out With the Old, In With the New

The IMC blog entered a short position in the December Bund/BOBL spread at 31.81 on October 10th.  The December European treasury futures contracts are expiring soon, so it’s time to roll over into the March contracts.

We noted in September that the close below the rising 30-bar Moving Average on the nearest-futures weekly chart for the first time in a year could have marked the beginning of a multi-month decline.  That’s how it played out the last two times the spread cracked the weekly 30-bar MA.

euro-bund-euro-bobl-spread-nearest-futures-weekly

Euro Bund Euro BOBL spread (nearest-futures) weekly

Another bearish development occurred one month ago.  The Bund/BOBL spread closed back below the 2015 high of 30.58.  Remember the old charting rule: Old resistance, once broken, becomes new support.  Well, that support level gave out four weeks ago.  This confirms that the trend has indeed turned bearish.

Where To Now?

A Fibonacci .618 retracement of the move from the 2015 low to the 2016 high would take the spread down to 26.13.  That’s another three full points from here.

But that does not mean the decline has to stop at Fibonacci support.

If the current decline from the 2016 record high replicates the 9.40-point decline from last year’s record high, the Bund/BOBL spread would hit 24.74 before it’s all over.

The bottom line is that the spread continues to break layers of technical support and the next targeted support area is still a few full points away.  Therefore, it makes sense to simply roll the contracts over and stay short.

Heck, we may even be willing to add to the position if the right setup comes along!  We’ll keep you posted if we see something interesting.

Trade Strategy:

Exit the hypothetical short December Bund/BOBL spread and simultaneously enter a short March Bund/BOBL spread at the market-on-close on Wednesday, December 7th.  Initially, the spread will be liquidated on a two-consecutive day close above 34.30. 

Aussie/Kiwi Spread: Rollover and Prepare to Add More

Exit Christmas Contracts

The IMC blog entered a long position in the December Australian dollar/New Zealand dollar spread at 3.42 cents (premium Aussie) on September 22nd.  With the upcoming expiration of the December contracts, it is time to roll to the March spread.

Two and a half months after entering this spread, it is sitting at nearly the same level as the purchase price!  As they say down here in the South, “This dog won’t hunt.”

aussie-kiwi-spread-nearest-futures-weekly

Aussie $ Kiwi$ spread (nearest-futures) weekly

However, the blog is maintaining a long position because the macro view indicates that we are holding the spread at a price that is historically cheap and previously unsustainable.  As you can see on the weekly nearest-futures chart, buying the spread below four cents would have led to profitable trades as the spread more than doubled off the lows.  So we’re willing to sit patiently to see if this sort of wager will pay off once again.

Near-term Price Hurdle

The March Australian dollar/New Zealand dollar spread rallied in the late summer and peaked out at a price of 5.31 cents on August 9th.  After a plunge to new multi-month lows in mid-September, the March spread once again reversed and ran higher.  The one-month run topped out at 5.27 cents on October 14th.

march-2017-aussie-kiwi-spread-daily

March 2017 Aussie $ Kiwi$ spread daily

The similar August and October highs form a price hurdle for the March Australian dollar/New Zealand dollar spread.  However, this is good news!

Why?

Because the price hurdle creates a clearly-defined breakout point.  A sustained close above this level would signal that the spread is finally serious about making a recovery.  Since such an event would mean that the current long position has an open profit to cushion it, aggressive traders could add to long Australian dollar/New Zealand dollar spread position on the breakout.

Trade Strategy:

Exit the long December Australian dollar/New Zealand spread and simultaneously purchase a March Australian dollar/New Zealand spread at the market-on-close on Wednesday, December 7th.  Initially, the spread will be liquidated on a two-consecutive day close below 2.00 cents. 

‘Add-On’ Trade Strategy:

For tracking purposes, the IMC blog will make a hypothetical ‘add-on’ trade by buying one March Australian dollar contract and simultaneously selling one March New Zealand dollar contract if the spread closes above 5.31 cents (premium Aussie).  If filled, the spread will initially be liquidated on a two-consecutive day close below 3.42 cents. 

Loonie/Kiwi Spread: On the Cusp of a Trend Change

Parameter Revision

The IMC blog is working a hypothetical order to buy the December Canadian dollar/New Zealand dollar spread on a breakout above the August high.  We’re going to update the parameters for this trade, changing both the contracts traded and the entry level.

First of all, we are now going to start tracking and trading the March 2017 contracts.  The December currency contracts will be history in the next week or so.

Secondly, instead of waiting for a breakout above the August high, we are going to go long on a breakout above the declining 100-day Moving Average.  The reason for this is that breakouts above/below the 100-day MA on the nearest-futures chart have been highly accurate in identifying trend changes over the last several years.  More often than not, the move continued in the direction of the breakout for months afterward and the moves were hundreds of basis points in size.  That’s tradable.

canadian-kiwi-spread-daily-100-day-ma

Canadian $ Kiwi $ spread daily (100-day MA)

In addition, the Canadian dollar/New Zealand dollar spread had previously bottomed at 3.87 cents in March 2014, 3.97 cents in March 2015, and 3.84 cents in December 2015.  This created a floor of support around the four-cent mark.

The four-cent support level was breached in September and the spread recovered a month later.

The spread once again sank below four cents in the second half of October.  This time, it accelerated lower and posted a multi-decade low of 1.36 cents on November 8th.

But just two weeks later, the Canadian dollar/New Zealand dollar spread had rocketed back up to the four-cent mark and has been flip-flopping around it since.  The fact that the spread just can’t stay below the four-cent mark indicates that it is undervalued down here.  This is supportive of a long position.  If we can combine that with a sustained close back above the 100-day MA for the first time since early June, it would greatly increase the probabilities that the spread finally makes a sizable run higher.

Trade Strategy:

Cancel the order to buy the December Canadian dollar/New Zealand dollar spread and place a new hypothetical order to buy one March Canadian dollar contract and simultaneously sell one March New Zealand dollar contract if the March spread closes above the 100-day Moving Average (currently around 4.42 cents).  If filled, the spread will initially be liquidated on a two-consecutive day close below the November 29th reaction low of 3.54 cents.