The wheat market has been a featured mover to the upside of late. Traders who have concentrated on the genuinely bearish world and US supply fundamentals are licking their wounds and wondering why the rally is still going strong. The reasons for this are simple. For starters, trend-following funds still have a large net short position in Chicago wheat at a time when the world’s investors are looking to park some capital into commodity markets. Trend following funds were net short 35,144 contracts as of November 9th.
The psychological shift that is underway among these funds, and investors in general potentially huge and long term, and they are looking for commodity markets that have lagged in recent months. Wheat is one of them. In fact, after adjusting for inflation since 1980, wheat is priced very cheap. If we were buying nearby wheat futures with 1980 dollars, today’s price would be under $2.25. Of course, prices can be inflated as well as deflated. Let’s take a look at wheat prices from the opposite direction. The midpoint of nearby wheat futures during the 20 years from 1970 to 1990 was roughly $3.00 per bushel. If we again start at 1980 and inflate that $3.00 price into 2009 dollars, that would compute to a price of about $6.89 1/4 per bushel. A $4.00 price in 1980 computes to $9.19 1/4 in 2009. This is a simplistic way of looking at commodity prices, and there are many factors to take into account in terms of the impact of inflation on a given commodity. While we are not suggesting a price objective of $9.19 1/4 for the nearby wheat contract any time soon, these are the sort of broad historical parameters that some money managers and investors may be looking at given the potential for an inflationary upswing.
It is also worth noting that wheat is not without some minor silver linings for bulls on the fundamental side. US acreage is expected to be down for all winter wheat this year, with soft red down due to poor planting conditions and the late harvest in corn and soybeans. This could result in a loss of acreage for soft red wheat of 1.5 to just under 2.0 million acres. The upper end of that range would result in the lowest plantings total since 2005. Other factors could be supportive, such as the continuation of the El Nino in the Pacific which could cause the Australian wheat crop to deteriorate. In addition, India saw a reduced wheat crop this year, and if they experience any further problems with wheat into 2010, this could result in Indian imports, which would be very supportive. Finally, there may be pest problems with some of this year’s Black Sea wheat crop, and this could shift some Egyptian demand to France and possibly the US. This is not to suggest that there is a strong fundamental case for a rally because there is not. However, if investors want to own more commodities and fewer dollars, wheat is a reasonable place to put some money. Given the fact that trend-following funds are still short, an objective of 730 3/4 in the nearby wheat futures by mid-to-late 2010 seems reasonable.
Suggested Trading Strategies:
* Buy July wheat at 581 with an objective of 642. Risk to close under 571.
* Buy 2 units of the December wheat 670/750 bull call spread at 23 cents each with objectives of 34 and 47. Risk 6 cents from entry.
If you’d like to further discuss these strategies to determine the best execution strategy for you, contact Daniels Trading.
About Daniels Trading
Daniels Trading is a relationship-focused commodity futures brokerage located in the heart of Chicago’s financial district. Founded in 1995, they have a history of providing effective and reliable trade executions to both individual traders and institutional investors around the globe. In addition to a focus on relationship and execution, Daniels Trading is a leader in providing ongoing education opportunities and resources for customers.
