Monday 12/20/10 Commodity Ideas

Opening Note:

Trade Light
Talking about what happened yesterday or the day prior is less useful right now. What the markets are showing is an unclear picture that is full of chop day to day. The relationships between the markets make sense one morning, but little the next. The technicals and chart patterns are difficult because of the vast amount of reversals. And, there are many battling fundamental stories yet not one real one to override them all. There is a reason I have only had a couple trade suggestions for the entire month. As the second half of December begins I expect that the randomness will increase rather than retreat. I think it is smart to tighten up the reins now and make sure that this rangy December does not hit the account too hard before a fresh 2011 begins.

Treasury Talk
The one thing that is clear over the last month is that the Treasury markets are getting annihilated, with Bonds taking the biggest hit. I began calling for a technical top on the Bonds the latter half of October, but I was not expecting this much liquidation before the end of the year. A lot of big money was certainly caught off guard by the the violent reversal from the prevailing trend since April. The Bulls thinking was The Fed is continuing to purchase Treasuries with the intention of keeping rates low to stimulate the economy, therefore prices will rise. This logic has proved faulty over the last two months though and there are a number of reasons this could be.

First is the theory that interest rates are rising because we are seeing real improvement in the economy. As someone that studies the market relationships, I had a difficult time over the summer substantiating why exactly the Bond market was rallying out of "fear" yet the stock market and Commodities held their value relatively well at the same time. It is possible that this relationship is finally snapping back into line with the stock market prevailing. I definitely think that this is part of the story, but I have a difficult time buying into this as the driving idea until the data and Unemployment show bigger signs of growth. Second is the thought that comparatively the Treasury markets have less value at current levels than Commodities, Equities, or other assets. I agree with this assumption. However, since early November when Treasuries initiated their top we have not seen dramatic inflows into Equities, Commodities, or even the Dollar. Comparative value makes sense, but it is not the culprit here.

The third theory (and the one I buy the most for the current move) is that the outstanding U.S. debt has now reached a level that the Treasury markets are beginning to price in more risk. Fundamental analysts have predicted this scenario for years, but with QE 2 underway and the possibility of QE 3, 4, or 5 in the future the vigilantes might have finally woken up. If this turns out to be the real reason for the move then some interesting relationship reversals would occur in the market. Instead of the inverse relationship between Treasury prices and Equities we would likely see the two travel more in unison (U.S. debt concerns would likely mean weaker Equity markets). This would also be interesting for Commodity prices, which could rise as interest rates do on inflationary pressures. Treasury Prices Down, Equity Prices Down, Commodity Prices Up could be the new relationship standard...hmm.

Nothing is certain for now and I am just speculating. It is surely some combination of all 3 theories (and others) causing the current Treasury liquidation. The Treasuries are the sector to watch going forward though. I believe they will be the guide to the new market relationships once we get a better understanding of the driving factor for these Treasury moves.

Today
Nearly all of the markets are higher on the day, including even the risk aversion category. Cotton is already locked limit up as it has advanced to new yearly highs. The Grain markets are strong across the board after constructive closes in both Corn and Beans last week. The Euro is the clear laggard of the entire market this morning as it tests the lower end of its recent range. The Euro is the only market lower as of 7:30 am. After watching the Metal open this morning I also am underwhelmed by Silver's performance so far. It is still higher, but it is lagging to Gold. I expect Silver to be much stronger on a morning when my entire board is green, although it is still early.

Buys to Watch:

March '11 - May '11 Soybean Spread- The consensus believes that you begin bull spreading the Grain delivery spreads on the 3rd or 4th day of the Goldman Roll, which was around December 10th this month. Many spread traders began bull spreading the Jan/March spread from (-9) - (-10) and some of the bold ones have added more from (-10) - (-11). Now that it has leaked out past -11 though and out to -12 there is a lot of puking going on. It appears that many traders loaded their full position on this spread too early and are now running over each other to reduce the position size.

A perfect storm of cash, fundamentals, and over-subscription caused the Jan/Mch to move out so far. China dried up in the market and wants to stall cargo, cold weather has stalled the pipeline, overall exports continue to fall below expectations, and the commercials have not stepped in to cash in their profit yet . I think this is one of those times every couple years that if you sit out of the spreads that you can take advantage of an unusual opportunity.

Because Jan/March goes into delivery at the end of December, traders that are not on a membership can not take this position. If this is the case then bull spreading March/May is the way to take advantage. The same guys that are overloaded on the Jan/Mch are overloaded on the Mch/May as well and are puking as it moves further out than expected. We know though that China will come back into the market at some point despite their recent withdrawal and any sort of weather problems in South America or a Bullish Jan. Crop Report should bring Mch/May in. Technically this leg lower for the spread projects to - 8 1/2 and I expect that (-8) - (-9) will be the range where this spread bottoms out. For now I recommend piecing into the position between this range with the goal of putting half of a full position size on, or what you would feel comfortable holding for possibly several weeks. The spread is still in free fall, so it is wise to keep some ammo in case it does move out further. I believe that the prospect of a move in to -2 or better is likely over the next month and a half with a number of possible Bullish catalysts over that time frame.

Sells to Watch:

Put on the Radar:

January Soybean Meal Bullish Pattern- Two consecutive settlements above $353.8 for the January Soy Meal contract projects a move to new yearly highs of $374.6. Over the Soybean Bull trend the Bean Oil has outperformed the Meal, but for now the differential between the two products is correcting and does not favor the Oil. Daily chart Stochastics produced a Bullish cross over Friday and MACD looks like it may also produce a buy signal with a strong close today.

Gold Trend Violation...Or Not- The Bullish trend line on the daily chart for Gold from the low July 28- Nov. 16 was violated with two consecutive settlements lower Thursday and Friday. Despite hitting some patches of Bearish stops over the last two days the market has held up relatively well though. This morning Gold is trading back above the trend value of $1382.3 today. It looks like it is a waiting game for Gold now before a possible price correction. The trend continues to climb higher and the price of Gold will have to as well to avoid some liquidation. $1300 is near the 50% reatracement for the entire move since late July and is a likely target for a pullback if it occurs.

Silver Trend Still Strong, But Gaining- Gold's trend has been violated, but Silver's is still intact. Silver has adopted the trend from the low Nov. 17 - Nov. 29 that is sitting at $29.19 today. The major trend on the daily chart from the low Aug. 24 - Oct. 22 at $27.84 is also in good standing. For now it looks like the next short term move in Silver will be higher with an advance above $29.985 projecting to $31.62. However, if the price does decline below the recent $28.01 swing low then it would produce an objective of $26.04 and likely violate the major trend. Like Gold, Silver is a waiting game for now. The Bullish trend has extended for such a long time that the market is well overdue for a correction. Until a move outside the trading range is established though it is best to just watch and wait.

Gold/Silver Bear Trend Nearly Over- I have discussed the differential between Gold and Silver in the past, but since it has run through support I have removed it from my radar. The important chart for the Metals is now the ratio between the Gold and Silver. The bear trend from the high Aug. 23 - Oct. 22 sits at 47.24 today with today's settlement possibly violating this line for the first time since it was established. If this trend does end then it is a signal that the correction in Metals is on the horizon.

Notes:

Soybean Weekly Chart- For the first time this year Soybeans have made a front month contract weekly close above the $12.91 1/4 swing high from June 2009. On Friday the January contract settled at $12.98 3/4 in spite of a Bearish Informa report that predicted an increase in planted Bean acres versus Corn acres for 2011. A second consecutive weekly close above this level Friday would produce the longer term objective of $17.03 for Soybeans, likely some time in the Summer of 2011.