Econ 339X, Spring 2010 ECON 339X: Agricultural Marketing Chad Hart Assistant Professor/Grain Markets Specialist

Econ 339X, Spring 2010 Today’s Topic World Ag. Supply and Demand Update Price Issues

Econ 339X, Spring 2010 U.S. Corn Supply and Use Source: USDA, with my modifications for 2010 acreage Area Planted(mil. acres) Yield(bu./acre) Production(mil. bu.)13,03812,09213,131 Beg. Stocks(mil. bu.)1,3041,6241,6731,899 Imports(mil. bu.) Total Supply(mil. bu.)14,36213,72914,81415,045 Feed & Residual(mil. bu.)5,9135,2465,4505,350 Ethanol(mil. bu.)3,0493,6774,3004,500 Food, Seed, & Other(mil. bu.)1,3381,2761,2651,290 Exports(mil. bu.)2,4371,8581,9002,100 Total Use(mil. bu.)12,73712,05612,91513,240 Ending Stocks(mil. bu.)1,6241,6731,8991,805 Season-Average Price($/bu.)

Econ 339X, Spring 2010 World Corn Production Source: USDA

Econ 339X, Spring 2010 U.S. Soybean Supply and Use Area Planted(mil. acres) Yield(bu./acre) Production(mil. bu.)2,6772,9673,3593,307 Beg. Stocks(mil. bu.) Imports(mil. bu.) Total Supply(mil. bu.)3,2613,1853,5123,505 Crush(mil. bu.)1,8031,6621,7301,655 Seed & Residual(mil. bu.) Exports(mil. bu.)1,1591,2831,4451,325 Total Use(mil. bu.)3,0563,0473,3223,147 Ending Stocks(mil. bu.) Season-Average Price($/bu.) Source: USDA, with my modifications for 2010 acreage

Econ 339X, Spring 2010 World Soybean Production Source: USDA

Econ 339X, Spring 2010 Seasonal Patterns  A price pattern that repeats itself with some degree of accuracy year after year.  Supplies and demand  Often sound reasons  Widely known  Linked to storage cost or basis patterns in grains  Linked to conception and gestation in livestock

Econ 339X, Spring 2010 Seasonal Pricing Patterns Source: USDA, NASS, Monthly Price Data

Econ 339X, Spring 2010 Charting Channel lines

Econ 339X, Spring 2010 Sell Signal Sell signal A sell signal is one close below the charting lines

Econ 339X, Spring 2010 Buy Signal Buy signal Some chartists need only one close above the charting line to create a buy signal, others use two closes above.

Econ 339X, Spring 2010 Key Reversal A key reversal is when the daily high and low price range exceed the price range for the previous two days.

Econ 339X, Spring 2010 Gaps Gaps often occur when a major new piece of information hits the market. They are often filled in by later price movements.

Econ 339X, Spring 2010 Double Tops & Bottoms Double tops and bottoms show prices with major technical resistance. These can be several days apart.

Econ 339X, Spring 2010 Head & Shoulders Source: Figure 7, Charting Commodity Futures Ag Decision Maker, File A2-20

Econ 339X, Spring 2010 Moving Averages 9 day average 18 day average 40 day average Sell signal Buy signals

Econ 339X, Spring 2010 Relative Strength Index  Looks at last X days worth of closing prices  X = 9, 14, 30, etc.  Summarizes upward and downward price movements during the period  Record the last 14 days worth of price changes, based on closing prices  Sum the positive and negative price changes and create average for each  Relative Strength Index = (Up average/(Up average + Down average))*100

Econ 339X, Spring 2010 Relative Strength Index RSI for July 2010 Corn

Econ 339X, Spring 2010 Relative Strength Index RSI’s above 70 (80) are considered signals of a market due to decline RSI’s below 30 (20) are considered signals of a market due to rally

Econ 339X, Spring 2010 Does Technical Analysis Work? Arguments for it:  Real world markets are not perfectly rational  Markets may be slow to respond to new information  Technical analysis works with the psychological biases  It works because so many people use it  Self-fulfilling Arguments against:  Efficient market hypothesis  The current price holds all of the relevant information

Econ 339X, Spring 2010 Convergence Issues Typically, as futures contracts reach maturity, futures price and cash prices at delivery points tend to converge to the same level. For several grain and oilseed futures contracts over the last few years, this has not occurred. “Poor Convergence Performance of CBOT Corn, Soybean and Wheat Futures Contracts: Causes and Solutions”  Scott Irwin, Philip Garcia, Darrel Good, and Eugene Kunda  University of Illinois, March 2009

Econ 339X, Spring 2010 Corn (Lack of) Convergence Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Soybean (Lack of) Convergence Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Wheat (Lack of) Convergence Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Why Is Convergence An Issue? 1.Non-convergence indicates the market is out-of- balance. “When a contract is out of balance the disadvantaged side ceases trading and the contract disappears.” (Hieronymus, 1977) 2.Non-convergence adds to the uncertainty in basis and limits hedging effectiveness. Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Factors  The relationship between the spread between futures contracts and the cost of carry (think storage costs)  In the settlement process for corn and soybean futures, the delivery instrument is a shipping certificate.  If it is advantageous to the holder of a shipping certificate, they can delay delivery and effectively store the grain, paying CBOT set storage costs.  Structural issues related to the delivery process  Does the general trade flow of the commodity line up with the possible delivery points under the futures contract? Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Spread vs. Carry Look at the ratio of the futures spread versus the cost of carry Futures Price Next – Futures Price Nearby Storage Costs + Interest Irwin, et al. found lack of convergence when ratio is high (> 80%) A lower ratio implies smaller returns to holding a shipping certificate and more offsetting positions are taken, lowering futures prices. If the commodity is still in storage, then cash sales aren’t happening, lowering cash prices. Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Delivery Points Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report CornSoybeans Wheat How much of the commodity is moving through the delivery point areas?

Econ 339X, Spring 2010 Convergence vs. Carry - Corn Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Convergence vs. Carry - Soy Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Possible Reasons for High Ratios 1.CBOT storage rates below commercial storage rates 2.Large “long-only” index funds rolling to the next contract at the same time 3.Large risk premiums built into futures to cover uncertainty Irwin, et al. found support for #1 and arguments for #3, but did not find support for #2. Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Possible Remedies 1.Increase CBOT storage rates  Done for corn and soybeans in late Change delivery points to include more of the commodity shipping area  Mostly an issue for wheat Other proposals:  Move to cash settlement  Force delivery  Limit the number of certificates that can be held Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report

Econ 339X, Spring 2010 Relative Basis Change - Corn Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report The closer this is to one, the more effective hedging is.

Econ 339X, Spring 2010 Relative Basis Change - Soy Source: Irwin, Garcia, Good, and Kunda, 2009 Marketing and Outlook Research Report The closer this is to one, the more effective hedging is.

Econ 339X, Spring 2010 Class web site: lawrence/ lawrence/