How I Collected 14.5 Cents Of Market Carry Premium
Dec 04, 2017
Market Commentary for 12/1/17
With too much supply in the US and globally, corn isn't likely to move in the short-term without a big event.
With 30-45 days of the major soybean producing areas of South American growing season left, there is still a lot of weather premium potential left in beans right now.
Market Action - Capturing Market Carry
After Dec options expired on 11/24/17, it left me short several Dec future contract positions. Since Dec futures go off the Board of Trade soon, I have to move them to a future contract month. I want to make sure I maximize my market carry opportunities with these trades, but also consider practicalities, like when I will have to core my bin centers out. I selected March '18 futures.
Unfortunately many farmers don't take full advantage of market carry. This is a shame, because it's a relatively easy, low risk way to add profit to a farm operation. For me, market carry pays for my on-farm grain bins and then some. Following provides detail on how I will collect market carry on these recent trades and answers some questions farmers have on collecting carry.
Trade #1 - Capturing The Carry (Dec to March)
When capturing market carry, I have to keep my position unchanged. In this case, I bought back the short Dec futures on 11/29/17, and sold the Mar futures at the exact same time, capturing the 14.5 cent spread. This equals a 4.83 cents per monthly average (i.e. Dec to Mar - 3 month trade move).
Does It Matter What Futures Are When This Is Done?
No. This can trip up some farmers, but the only thing that matters is the spread. With March futures higher than Dec by 14.5 cents market carry, when I buy the Dec futures back and sell March futures, I'm left with only the profit of the spread. This follows business rule #1, Buy Low/Sell High. In the end, my hedge is still in place and I capture the profits of the spread which is market carry.
Trade #2 – Old Crop Market Carry
I also moved my futures position for some 2016 corn I have stored and priced and will hold until 2018. Those hedges were in the Dec '17 futures too, so I moved them to Mar '18 as well and collected 14.5 cents on that trade as well.
Why Choose Mar ’18 Versus Another Future Month?
There are several things to consider when selecting your carry month.
Historical Spread Trends - Many would choose a summer month like July. However, when I analyzed the average monthly spread premium from Dec to July (a 7 month spread) it is currently only paying 30 cents carry. To me this isn’t big enough. Over the last year corn has paid nearly 5 cents per month when rolling one futures contract forward due to the heavy global supply. In other words, the past year's historical trends indicate the spread between Dec and July should be closer to 35 cents.
Commissions - While I want to maximize carry, it's important to consider commissions too. Each time I move futures forward I pay one cent. So if I moved futures from March to May and then May to July, I could end up paying 3 cents extra in commissions to try and capture 5 cents of extra premium. That extra 2 cents of potential probably wouldn’t be worth the risk.
When I Need To Move Corn - Right now I'm not sure when I'll be physically moving some or all of my corn. It could be winter, spring, or summer. If I move futures to July but then have to move some back to March or May because I end up physically moving some of my grain, I could lose one cent of commission.
But You Don’t Have All Of Your 2017 Corn Sold. Can You Still Capture The Carry?
Unfortunately, much of my 2017 crop is still not fully priced, so I can't capture carry if it isn't sold. As time progresses, market carry opportunities decrease, so that always needs to be considered. If I had more of my crop sold, I would have likely considered Jul futures at 30 cents also to reduce my risk.
Letting Options Expire vs Buying Them Back
Last week I mentioned how I let most of my options expire or get exercised. Several farmers said they didn't know farmers could do that and wondered why I would want to do this.
Usually, I let many of my options get exercised or expire worthless. Buying options back that have been sold previously costs 1/2-1 cent in market premium and another 1/2 cent in brokerage fees. Adding these additional premiums and fees to all of my trades erodes my profitability. For example, had I bought back all of the options discussed in last week's commentary it would have been on 20 different options. That means on 100,000 bushels the extra fees would have been close to $1,500. Since I was comfortable with any trade scenario happening, the extra fees and commission seemed like a waste.
But What If My Broker Doesn’t Charge For Taking An Option Position Off?
If that’s the case, I would ask what the broker charged to put the position on in the first place. In my experience, if there is no cost by a broker to take an open position off, then the broker is already charging the farmer “round trip prices” upfront. I would recommend that a farmer negotiates with their broker to only charge half upfront and half on the backend, so that a farmer is only paying for what they need. A good rule of thumb for me is to minimize the number of trades in my hedge account to reduce lost premium as well as commission fees whenever possible. Lots of trading doesn’t always mean more profits.
Why Not Try to Get Out Of Some Trades At Different Times?
I’m not very good at trying to time the market. When I’ve tried in the past, I’m usually disappointed in the results. However, when I make a plan and stick to it, my outcomes are much better. Since I have trades built around a number of possible outcomes on each trade, if I am patient and let the trades develop, I’m generally happy in the end.
I’m not alone though. No one is an expert at timing the market on a consistent basis, despite the confidence of “experts” in trade. Those that have had some perceived success can become overly confident that they know something no one else does. In reality, these people may have just been lucky.
I have the most success sticking with my marketing plan, which takes into consideration any possible market scenario (up, down and sideways). Since I don't place trades where I'm not willing to accept any outcome, there is no reason to deviate from my original plan. Planning this way keeps me from guessing and hoping to be proftiable.
Superior Feed Ingredients, LLC
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