The corn market got hit with a surprise on Monday as the USGA’s latest projections on the current crop season hit the street. Things aren’t as bad as the market thought.
Between the middle of May and the middle of June of this year, corn prices really heated up due to all of the rain that fell in the U.S. Midwest. Prices rose from $3.35 a bushel to $4.59 in just a month, a 37% gain over this time. When you factor in how leveraged corn futures traders are, those who were on the long side during this time made a lot of money indeed, even those who just got half of this move.
This all happened over a period of a whole month, so it’s not that this just hits the street and the price balloons and most or all the fun is over. Commodities trade in trends and the trends can last for quite a while even in the midst of a big move like this.
Commodity markets get overbought and oversold like all markets do, and the momentum itself has a fair bit to do with the price even though most people think of commodities as being based upon fundamentals. We ended up giving back some of these gains over time and the price as of the close Friday was right in the middle of this move at $4.07.
The USDA releases a crop projection report every month which is pretty closely watched. Last month, the projection was 166 bushels of corn per acre this season. On Monday, in the latest USDA report, this became updated to 169 bushels.
This might not seem like a big difference but it has been enough of one to send corn prices tumbling, where at the close of Wednesday’s trading we have seen them drop 10% just this week. The move down may not be over quite yet.
It does look like the market wants to rally a bit here, and we might think that a 10% move in the face of this news might indicate an oversold position, where sellers may have acted a little too enthusiastically, but whenever an intraday rally has started this week, the sellers jumped on and drove prices further down, thus far anyway.
Those who trade corn futures or trade them in contracts for difference trades are happy enough to see this decline, unless they decided to hang on and weather out this storm. It isn’t particularly wise to want to ride out rains as big as what has happened this week, or rallies if you are on the short side of contracts where you lose when the price goes up, but those who use futures to hedge are stuck in their positions as they have bigger fish to fry than looking to make money on these contracts.
This is the main reason why there is so much opportunity trading commodity futures, as many of the participants are just stuck with what they have and nimble traders can just get in and out when they please and when the market indicates they should. During the previous rally, their money was on the long side, and is on the short side right now of course.
It’s All About Being Pointed in the Right Direction
Even if you are trading daily charts, once you see a trend reversal you can jump on it and if you are good at calling these reversals, which really isn’t as difficult as some may think although this still does require skill, you can do pretty well at this. The idea that everything that is known about commodities and therefore anything we could predict about its future price trends are already known is for the most part hogwash, as there’s a lot more going on here than just predictions about fundamentals, there’s also the trading itself which does impact prices.
The primaries in these contracts, the buyers and sellers of actual corn in this case, aren’t that fussy about traders playing in their field, but it’s not their field, it belongs to the free market which allows anyone with a stake the opportunity to speculate on corn and other commodities. The primaries are the dead money here though so it’s no wonder why they aren’t that fond of traders moving prices, because traders can react and they are much more limited and are spectators more than anything.
Farmers are of course made unhappy by this move down, and farmers these days mostly are huge farms that have a lot at stake, but seeing that their yield has been predicted to rise by 1.8% over what was thought surely dulls the pain. A 10% move down on a 1.8% increase in yield might strike them as disproportionate though, but that’s how future markets roll often times.
The trading does serve to amplify price swings and increase volatility, which might not suit the hedgers, but this is just one goal of market participants. We need the hedgers to make the market but we can also jump in and drive prices higher or lower than they may have been otherwise by way of our speculation.
The thing that a lot of people don’t realize is that this price variation is during the trading phase of the contract, as a bushel of corn will be worth whatever a bushel of corn is at expiration, the cash price at the time in other words. There is some carryover with this from contract to contract but very little given that the contracts settle for cash or actual corn in some cases, and what corn is worth then is going to shape these prices ultimately.
Along the way to this though we can indeed have trading swinging things in both directions at a higher rate than what would be the case if we didn’t have a futures market and the price of corn was limited to actual corn markets, not securities, and this does provide some real opportunities for traders. This does increase intra-contract volatility, which hedgers don’t like, but traders love this.
Corn prices this year peaked not last Friday but on June 17, and while we got almost all the way back on July 15, corn has been falling ever since. Over the last month, we’ve seen corn drop 16%, and while a good part of it has happened this week, trend followers and especially those who play seasonal trends have been already short it.
Corn Prices Also Affect Other Things, But There’s Nothing Like the Real Thing
Corn prices also affect other things, such as certain stocks such as John Deere. Deere stock gained 27% between mid-May and mid-July, as corn prices have climber, but over the last month they have given back two-thirds of these gains, with perhaps more to come given their downward trend.
We don’t want to assume that this happens all the time, or even often, and one single commodity like corn doesn’t have that much influence on a stock, but in this case the stock traders are playing along with this and playing along in step.
Baird analyst Mig Dobre remarks that Deere’s near-term fundamentals looked a little weak in the second quarter of this year, but this did not stop the big rally it saw during the second half of the quarter nor does it explain it. People loaded up on Deere stock anyway, and loaded up a bit too much it seems, and we’ve moved back down closer to what analysts might consider reality, although the charts always define that.
You can make a lot more money trading corn than Deere or any stock though, so if people want to speculate on corn and find 10:1 that the pros often use to be way too much leverage, you can set whatever leverage you want with futures trading, including setting it even below 1:1 if you want by just keeping more than the amount of your positions on the side in cash in your account.
We really wouldn’t want to be dialing down leverage this far though as the idea behind this is to magnify our trading advantage, but in a way that still manages our drawdown risk. The right amount of leverage is the amount that we can achieve both goals.
The size of a corn futures contract is 5,000 bushels, so this isn’t the sort of thing that those without a fair bit of money to commit to this will find accessible. While you can get into a position with a lot less than the full price of the contract, this involves more leverage than a trader might be comfortable with and not respecting this is why most futures traders fall on their faces.
Trading anything does take some skill though and this is not the sort of thing that stock investors take to very well, but there are a lot of stock traders of even fairly modest means that might be well served to take a harder look at commodities such as corn and just set the leverage to whatever they are comfortable with.
The price of commodities goes up and down and this is not the sort of thing you can invest in longer term or anything but shorter-term, as even though you can roll over futures contracts as long as you wish, these things just don’t appreciate in value above inflation like stocks do. There is also some slippage involved in rollovers although you can trade continuous cash contracts with contracts for difference brokers, and also trade a lot smaller than with futures, but you can’t trade this sort of thing if you live in the United States, as of yet anyway.
Corn is currently a beautiful market for traders though as it has been both very volatile and quite predictable over the last few months in particular. There may be more in store on the downside due to the current trend, but we always need to trade with not one eye but both eyes on the charts so that we can get out if our expectations don’t materialize in the right way, and we always want to get out when that happens.
Within the current trend, so far so low and so good.