Making small profits in sideways markets
Jun 17, 2017
Market Commentary for 6/17/17
Weather is driving the market right now. As forecasts adjust twice a day, the market can shift direction abruptly. At this point it's really difficult for the market to fully estimate the actual amount of stress the corn crop has sustained so far and its impact on overall future yields. Contributing to the uncertainty is the significant amount of unpriced old crop corn still in storage by many farmers, which will continue to put resistance on higher prices in the short-term.
Uncertain about the market direction going into summer, and with less corn than I desired to have sold for the 2017 crop, I want to make another trade. With what I know today, I expect the market to be trading sideways from here until late in November.
New trades I placed these past two weeks.
6/12/17 – Trade #1 – when Sep corn futures were $3.89
• My expectation of market direction - Probably sideways with some downside potential into fall
• Trade Detail - Sold Sep $3.90 call for 19 cents of premium
• This trade amount = 5% of planned production
• Expires - 8/25/17 - after the crop condition is well known
• Potential Benefit - If Sep futures close at $3.90 or below on 8/25, I keep all of the 19 cent premium
• Potential Concern - no downside protection
- Every penny above $3.90 I get 1 cent less premium until $4.09 but no corn sale has to be made
- $4.09 or higher – I have to make another corn sale at $3.90 plus the 19 cent premium which would be like a $4.09 sale
- Because the sale would be against Sep futures I would have the opportunity to roll the sale forward and against the Dec futures which would likely add 10 cents of profit to the trade. Thus I could have a $4.19 sale in place.
6/7/17 – Trade #2 – when Dec corn futures were $4.00
• Sold 2 – Dec 4.00 calls – collected 29 cents each (or 58 cents total)
• Bought 1 – Dec 3.70 put – paid 11 cents
• Net profit: 45 cents (after paying just under 2 cents of commissions)
• All Trades Expire: Day after Thanksgiving
• This trade amount = 5% of planned production is protected to the downside
What does this mean?
Basically I have a floor price of $4.15 and a potential price ceiling of $4.45, but the outcome varies depending on the price of Dec corn at option expiration (which is the Friday after Thanksgiving).
• If Dec corn is near $4.20 at expiration - I get about $4.20 for my corn
- Every penny corn is below $4.22 to $4.00, 1 additional cent is added on to the $4.20 price (e.g. if it is $4 exactly I take home $4.45)
- Every penny corn is below $4.00 to $3.70, 1 cent is subtracted from $4.45 all the way down to $4.15 (if it is at $3.70)
- Anywhere under $3.70, and I still get $4.15 (15 cents above where the market was when I placed the trade)
• If Dec corn is above $4.22 – Then I have to take $4.22 on the this sale and I have to make another corn sale at $4.22 (even if corn is $4.50 or $5)
Seems like a great trade, why not do more?
This trade required me to do something that I normally caution against and that is to risk having to sell 2 bushels to protect 1 bushel from downside. So while there is still the potential of doubling up a 2017 sale at $4.22, I don't want to commitment more than a max of 10% of my anticipated production right now.
Bottom line – This is a sideways market trade play with some downside protection.
• Market trades sideways - biggest profit (the closer the market is to $4, the better)
• Market goes up - I get a premium that puts me on my farm's breakeven points or better
• Market goes down - I have a $4.15 floor price
• Horrible drought - I miss out a on a huge price rally, but I have much more of my crop left to sell
As I've mentioned before, I plan my grain marketing on what I think might happen based upon what I know today and historical trends. However, I still consider all possible scenarios the market could do. The market can do three things: go up, go down, or go sideways. So when making trades I need to be comfortable with all outcomes. That's why I always balance potential premiums on each trade against the risk I'm taking if the market goes a different direction.
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