Funds -- a four-letter word again

August 7, 2008 07:00 PM

The recent sharp drop in commodities has triggered much debate over whether this is a deep correction in the long-term bull market or a reversal in investor patterns.

The bullish side of the argument centers on the fact the Continuous Commodity Index, which gauges overall commodity strength, is still up nearly 200% from the 2001 low. And while the correction has been deep, the long-term uptrend is still firmly intact and only the most recent support has been violated.

Bears argue that July marked the largest one-month drop in commodities in nearly 30 years and there are significant signs a major top has been posted. Plus, bears suggest it hasn't been just profit-taking, but a shifting of investment dollars out of commodities and into equities.

Fund investment dollars will be the near-term key.

Today's featured question:

I wonder if this big break in the grains as well as other commodities will not be complete until those "evil funds" (we liked them on the way up) are liquidated out of the markets. It is obvious by market action there has been a lot of liquidation going on. I believe the physiology of these markets have been broken. The pendulum swung to high and it will probably swing to low before it is over. My question is how many fund positions are left? How do you monitor them?

My response:

I agree, the attitude in grains (commodities in general) has shifted for now. Funds are liquidating long commodity positions and shifting money into equities. Just as funds gave commodities an added boost when they were aggressively buying, they have quickly taken some of the air out of commodities during this liquidation phase. The key now is how long and pronounced the fund liquidation becomes.

For corn and soybeans, the level of fund investment will determine if prices remain historically high or return to unbelievably high levels. Long-term fundamentals for both corn and soybeans remain bullish, which mean prices will remain high by historical standards — even if funds aggressively leave the market. But even with strong fundamentals, it would likely take a fresh wave of fund investment to push prices back to levels seen earlier this summer.

The recent sharp break suggests there has been no paradigm shift in commodities. Fundamentals are still the key, but fund activity has increased the ebb and flow of prices.

As for fund positions, they can be monitored at (Commodity Futures Trading Commission website). Position reports are released each Friday afternoon. There is a report that shows fund positions (non-commercial category) and a supplemental report that shows index fund positions. As of July 29, which is the latest data available at this time, index funds had 207,262 long positions in Chicago wheat (47.5% of open interest), 417,229 long positions in corn (21.5% of open interest) and 162,496 long positions in soybeans (29.4% of open interest).


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