- A common theme for me this time of year is to remind traders that ag production markets (e.g. Softs, Grains, Etc.) are weather derivatives at heart.
- Recently, we've seen parts of the US Midwest show moderate drought readings, though not enough to slow the pace of noncommercial (fund) selling.
- Looking ahead, if weather grows more favorable it's possible Watson (funds, noncommercial interests) could build a record large net-short futures position in corn.
I’ve talked a number of times over the years about my view of ag production markets as weather derivatives. What do I mean by this? If global investment traders are looking to trade weather, money can be moved into or out of a wide variety of markets where supply and demand are directly influenced by changes in weather patterns, both long-term and short-term. Think back to what we’ve seen over the last couple years, particularly in the Softs sector. Cocoa, sugar, coffee, etc., have taken turns racing to new all-time highs as adverse weather made its way around the globe to key growing areas. A couple months ago I posed the question on Barchart, “Where will real fundamentals turn bullish next?”. Given the response to that piece, the majority was pulling for one of the Grains sector markets, but so far this hasn’t happened. Why? Because of the weather. Naturally.
The latest US Drought Monitor map, reportedly showing conditions as of Tuesday, July 2, showed abnormally dry (yellow) to moderate drought (tan) readings across parts Illinois, Indiana, and Ohio. However, when compared to what was seen the previous year (as of Tuesday, July 4, 2023), it’s easy to see why large investment traders have continued to add to their net-short futures positions in corn and soybeans. Again, this is how funds can trade weather, by selling markets where supply and demand is directly affected by weather patterns. Recall Newsom’s Market Rule #6 says, “Fundamentals win in the end”, and as of this writing our real fundamental reads[i] for both new-crop corn and soybeans are not bullish. Make sure you understand what I just said because “not bullish” doesn’t mean “bearish”, at least not yet. What we do know is the commercial side is growing more comfortable with longer-term supply and demand.
Whenever I start talking about real versus imaginary fundamentals, the overwhelming response is the childish, “Yeah but, funds trade government numbers!”. While this is usually said with a great deal of conviction, along with plenty of whimpering and whining, the fact of the matter is funds don’t trade government numbers. Watson[ii] took over the markets roughly 20 years ago. Early on, algorithms were easily influenced by deliberate wording of headlines, a game I watched play out (and participated in, to a certain degree) back in the newsroom. However, evolution is real, and as the years have passed we’ve seen Watson turn into a more serious entity. I’ve had the opportunity to speak with a number of trade algorithm writers, individually and collectively, and have yet to find one that builds government numbers into their equations. If you believe differently, that’s fine, for it gives those who know better an advantage when it comes to hedging/investing/trading.
The latest CFTC Commitments of Traders (CoT) report (legacy, futures only[iii]) showed noncommercial traders (Watson, funds, speculators, etc.) continuing to add to their net-short futures position. As of Tuesday, July 2, funds added 58,928 contracts to their net-short futures position in corn and 11,035 contracts to their net-short futures position in soybeans. An interesting side note: A look at the latest list of markets shows of the seven I track in the Grains sector; funds held a net-short futures position in all but soybean meal[iv]. What stood out to me with the latest CoT numbers is corn’s net-short futures position was within sight of the all-time largest position of 266,067 contracts as of Tuesday, February 20. Is Watson willing to build a new record large net-short futures position, despite our reads on real fundamentals continuing to show a neutral longer-term view? Time will tell. It should be interesting,
As I talked about last time, we could make both a technical and fundamental case for Dec24 corn (ZCZ24) to uncover increased buying interest from Watson in the $4.20 to $4.00 range. Technically, the previous long-term sideways range[v] ran from the fall of 2014 through the fall of 2020 spanned $3.20 to $4.20. Based on the idea of old resistance turns into support, Dec24 could see selling interest start to slow down in the $4.20 to $4.00 range. That being said, Dec24 was down 13.5 cents from the close of Tuesday, July 2 through the Monday, July 8 settlement indicating Watson was continuing to sell. Fundamentally, Dec24 corn have a synthetic floor near $4.00 based on the US government spring base insurance price of $4.66 established this past February. Assuming the average producer is 85% covered (insurance), the synthetic floor would be $3.96[vi]. Hence the technical and fundamental range between $4.20 and $4.00.
Will this be enough to slow fund selling, at least in the corn market? It’s hard to say at this time. Theoretically, it could be, but in the end it will come down to weather developments. Tuesday morning finds the remnants of Hurricane Beryl bringing rain to some of the areas showing drought readings a week ago. Rains that fall today could influence the next set of Drought Monitor maps given they run from Tuesday-to-Tuesday, interestingly enough the same time frame covered by weekly CFTC Commitments of Traders updates. Watson knows that money can be made in downtrends[vii]. I’ve long contended that downtrends generate larger returns faster than uptrends based on market gravity, but that’s a subject for another day. For now I’ll leave it at long-term trends I corn and soybeans remain down, since the spring/summer of 2022, with no bullish reversals in sight. Let’s see what happens.
[i] Real fundamental reads are what it sounds like: Reads we can use to understand real market fundamentals. These include National Price Indexes (national average cash prices), Basis (the difference between National Price Indexes and Futures), and Futures Spreads (including forward curves). This differs from imaginary fundamentals released by government agencies (USDA, EPA, etc.) every week, month, quarter, and so on.
[ii] My name for the algorithm-driven investment industry.
[iii] Another hot topic as the bulk of the industry who talks about such things doesn’t understand options traders hold positions for a number of reasons other than bullish or bearish. But, as usual, the commentators don’t let reality get in the way of talking about bigger numbers.
[iv] I talked about the bean meal market in the aforementioned piece on where fundamentals could turn bearish next.
[v] On the continuous monthly chart for December corn futures only.
[vi] And applying corn’s characteristic Round Number Reliance, it comes to near $4.00.
[vii] Another fact the bulk of the ag industry has trouble comprehending, hence the BRACE community saying everything is always bullish, ignoring reality.
On the date of publication, Darin Newsom did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
