- Nearly every economist quoted over the last year or so has talked of a coming recession based on the inverted yield curve of US Treasuries.
- Similarly, I've been taking about Kansas City (HRW) wheat's inverted forward curve, but again investment traders aren't paying much attention.
- The situation could change for HRW wheat as May comes to an end, based on what I see on the long-term monthly chart for the Barchart National HRW Wheat Price Index.
I made a comment Tuesday morning about how markets don’t necessarily have to follow the rules of an inverse. This after I saw another economist say the inverted US Treasury yield curve is no longer flashing a false recession signal, but now “The question is how deep the recession will be”. It’s possible, though I can’t help but remember what happens to a boat when everyone is standing on the same side, in this case nearly all economists lined up orderly (of course) on the side of a recession is not a question of if, but when. I can’t say I’m on the other side of the boat, not because I’m in agreement with them (I’m not) but because I’m not an economist so wasn’t invited on this particular 3-hour tour boating excursion.
But the Treasury yield curve has been inverted for months, and shortly after the Wall Street Journal piece quoting Professor Campbell Harvey was posted another story from MarketWatch had the teaser, “US economy growing at faster rate in May, led by services demand”. And as we all know, two of the three major U.S. stock indexes are posting bullish months in May, with the outlier being the stodgy Dow Jones Industrial Average.
But I’ve talked about all that in the past. What I want to focus on today is the second part of my statement. After pointing out there are no absolute rules traders have to follow when it comes to inverted yield or forward curves, I used Kansas City (HRW) wheat as an example. Here we see the market’s forward curve is sharply inverted, has been for a while, yet investment traders have likely reduced their net-long futures position down to near par. It wasn’t all that long ago this group actually held a net-short futures position in Kansas City wheat, despite incredibly bullish long-term fundamentals indicated by the forward curve. This sort of divergence creates what I call a Rubber Band Disposition, where the market is stretched like a rubber band before breaking, snapping back to its base which is usually fundamentals. In this case that would mean investment traders would start buying Kansas City wheat again.
After I posted my comment, a gentleman responded with the observation, “Wheat has been inverted for over a year. I’m not hedged a bit – per textbook – and we will wait and see.” This got me to thinking about the self-admitted vagueness of Newsom’s Market Rule #2: Let the market dictate your actions. The gentleman’s response was correct in that an inverted forward curve tells us supply and demand is tight and merchandisers are pushing nearby futures trying to source supplies to meet demand. Given the Kansas City forward curve is inverted out through at least the 2024-2025 marketing year futures spreads, it would make sense to not have a lot sold up front[i].
But a different read of Rule #3 tells us to sell a little at a time into the market. Why? Because if we let the market dictate our actions, and futures spreads are saying commercial traders are needing supplies, we sell them some, but not all at once. Again, it’s important to differentiate between grain being held in storage (preferably on-farm) post-harvest and forward contracting grain most likely to be held in off-farm storage. Keeping the focus on wheat, more often than not destined to be held in off-farm storage, it is even more difficult to make sales ahead of harvest. But what if Kansas City futures spreads are still inverted after combines have raced across the U.S. Southern Plains? That’s when we can move from the first reading of Rule #3 to the second reading.
To this equation we can also add the fact the Barchart National HRW Wheat Price Index (KEPAUS.CM) is in position to complete a bullish key reversal on its long-term monthly chart during May. This tells us the long-term trend of the intrinsic value of HRW wheat is set to turn up, after the previous uptrend peaked during May 2022. If holding post-harvest cash wheat, we see from the chart the upside target area is between $9.59 and $10.97, with continued bullish futures spreads favoring the upper half of the range starting near $10.28.
As for Hamlet’s paraphrased question, “To sell HRW wheat or not sell HRW wheat?”, the answer is “yes”.
[i] It is also difficult to hedge and/or forward contract new-crop wheat in general because of the variability in production. Again, take HRW as an example this year. Last week’s Crop Tour across Kansas concluded with a guess of about 1/3 of a crop. If a producer had hedged at most 1/3 of expected production, it would equate to roughly 100% priced. While that sounds fine given what has happened with prices, a number of acres have been abandoned or zeroed out by insurance.
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.
