MoundReport.com Presents our Featured Article:

Grains Outlook

By JMTG’s Head Analyst James Mound

August 3rd, 2004

            Readers of my Weekend Commodities Review and the Mound Trade Signals are well aware of my bearish outlook in grains for most of the year. And after riding one of the biggest downtrends in history, I am excited to announce a new trend prediction in the market.  After a year of some of the most violent and volatile grain moves in history we are approaching yet another critical juncture in grain pricing that deserves attention.  A deep look at the market utilizing common sense, seasonality analysis and both a micro and macro perspective suggests this is an ideal time to buy grains for the intermediate term.  This article explains the logic and recommends ways to profit from the bull trend ahead.

            History repeats itself.  Time after time the grain markets repeat its cyclical tendencies based on supply and demand fluctuations and their affect on plantings.  Weather is obviously the unknown (although some could make a solid case for predictability in this arena as well) by comparison, but nevertheless the grain markets have a clear pattern.

A four year plus doldrum from ideal crops put a large carryover crop and a healthy supply market on the shoulders of a price depressed market.  Typical of cyclical farming markets, the supply base shriveled up over the years as declining profits and buyouts brought about a period of reduced plantings and declining new crop growth.  Good weather always hurts, however, and great crop after great crop brought a base of price support rarely seen throughout the recent history of the grain markets.  At the time, one could find very little technical or fundamental justification for buying grains, but a good cyclical trader would have agreed with my analysis at the time.  In the exchange traded history of soybeans, I challenge you to find any period of more than five years that the market did not experience at least a 40% price rally.  So of course you combine a declining level of growth in plantings with a 6 week hot and dry weather run in the middle of the growing season and Eureka!  A strong grain rally in ’02 depleted the carry-over inventory from the prior years’ ideal harvests and setup what could have been an explosive year in ’03.  But good weather put the kibosh on the follow through rally.  Then the unknown China demand factor spiked the markets as the demand far exceeded any demand crisis I can ever remember, especially with supply in reasonable form.   Beans rocketed to plus $10 prices and put the market in a state of hysteria with no supply, high demand, and the guts of the growing season still ahead.  This was a key sell signal as the history of soybeans suggests buying puts with 4-6 months of time when the market exceeds $9 bushel has a proven history of high success.  Now we head into harvest with a massive epic retracement under our belts and no one having a clue what’s next.

            History repeats, right?  Well common sense tells you that there are certain identifiable points of reasonable price support.  The market has no reason to retrace to 2001 prices because the market must factor in a premium that exists now but didn’t exist back then – China demand.  Growing demand set against a backdrop of no carry-over inventory isn’t such a bearish place to be prior to harvest.  This is an ideal time to play on an oversold condition just prior to critical technical support being hit and ahead of any illogical retest of 2001 prices.  Also, periods just following extreme price moves during the growing season (just prior to and during harvest) are often times when the market trades counter seasonal, suggesting this harvest year is a time to buy.  Look at the price charts, toss the fundamentals around and you will come to the same conclusion I have – Buy now.

           So you are a semi-intelligent person who identifies the inherent risk in buying futures in a free falling market – what do you do now?  Here’s a few ideas to get the mind working in the right direction:

Corn:  Buy a Dec. futures around 227 and buy a 220 put for protection.  This will run you about $350 and has a max risk and margin of $700 while offering unlimited profit potential and trade protection for almost 4 months.  I would suggest selling a 250 call on a rally to 240 if it occurs in the next 5 weeks.  This would help to lock in profits, reduce or eliminate the risk and margin on the trade and still allow you to benefit from additional gains in the market.

Soybeans:  Call premiums are still over priced, while puts remain at a discount.  Nevertheless, I recommend a simple bull call spread with a Nov. expiration.  Look at buying a 620 call and selling a 660 against it for about $300.  If you want a wider risk to reward ratio and have a higher expectation for beans, spread it with a long 620 call and sell a 700 call against it for about $450. 

Wheat:  Sell one Oct. 340 call and buy three Oct. 350 calls for a cost of about $300.  This trade carries a margin requirement of about $600 and a max risk and max margin of $800.  Loss at expiration if the market is below 3.40 is the cost of the trade ($300).  This essentially gets you long the equivalent of two futures at a price of 3.58 for an upfront cost of $300.  This is a good ratio breakout spread to play on a bull run in the next 7 weeks.

Pick your favorite grain and start the bandwagon by seeing the market before it happens. 

If you are already a JMTG Brokerage customer give us a call and we will walk you through the right trade designs for you. 

If you aren’t a customer yet, call us at 888-744-8866 to find out how to be on the James Mound Trading Team.

*Disclaimer: There is risk of loss in all commodities trading. Please consult a James Mound Trading Group Broker before you trade for the first time. Losses can exceed your account size and/or margin requirements. Commodities trading can be extremely risky and is not for everyone. Some option strategies have unlimited risk. Educate yourself on the risks and rewards of such investing prior to trading. James Mound Trading Group, or anyone associated with JMTG or moundreport.com, do not guarantee profits or pre-determined loss points, and are not held monetarily responsible for the trading losses of others (clients or otherwise). Past results are by no means indicative of potential future returns. Information provided is compiled by sources believed to be reliable. JMTG or its principals assume no responsibility for any errors or omissions as the information may not be complete or events may have been cancelled or rescheduled. Any copy, reprint, broadcast or distribution of this report of any kind is prohibited without the express written consent of James Mound Trading Group LLC. Total cost, or cost/credit of trade (as referred to in the trade above), includes the cost/credit of entry, commissions and fees. Typical commission is an approximate mean of commission rates amongst JMTG customers, but can be more or less depending upon the individual account/customer, services rendered, account size, trading volume, etc. Options do not necessarily move in lock step with the underlying futures movement. Commissions at JMTG range from $3 to $27.50 per side depending upon the market traded and specific commission rate charged to the client. Fees range from $2.88 to $7.50 per side depending upon the market traded.