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July/Nov spreads stay popular

03/01/2011 @ 2:29pm

It happens every March. But, this year the popular trade of spreading old-crop contracts against new-crop is heightened, with tight old-crop stocks.

In its February Supply/Demand Report, USDA pegged the U.S. old-crop soybean stocks at 140 million bushels. That is approaching minimum pipeline levels. "When you get stocks-to-use ratios under 6%, some implied numbers have it under 4%, you're down to less than two-three weeks supply of soybeans," one CME Group floor trader, choosing to remain anonymous, says.

Statistically, the end of the soybean crop-year is August 31. "So, if you have an implied carryout that is that tight, you could be running out of soybeans in some areas of the country by the middle of July."

This all adds support to old crop spreads, as commercial entities view the CME Group delivery market as a source of supply.  Commercials are then more willing to “stop” the futures contract in delivery.

Tim Hannagan, PFGBest.com senior grain analyst answers the question why spreading contracts is so popular in the month of the March.

Contract spreading

The July/Nov soybean and July/Dec corn futures spreads focus around trading new-crop vs. old-crop fundamentals. So, it's looking at the fundamentals of last year's crop and anticipating the fundamentals of the crop coming up.

"The demarcation line is drawn at the latest point in the old crop months where there is still no harvest activity.  This is July, while there can be at least some relief from harvest months of August and September. So, the proxy for trading old-crop vs. new-crop is the July/Nov soybeans and the July/Dec corn contracts," the floor trader says.

Regarding the old-crop statistics, we are well into the marketing year, we have some evidence of tight stocks, and this year the bias in buying July and selling November futures has been extreme due to the tight implied carryout for old-crop soybeans.

It can be a little counter intuitive but, if you see some solution to tight stocks with the upcoming new-crop, the spread can actually strengthen to a more aggressive inverse, he says.  In other words, the July futures price can recover to strengthen even higher over November.

If the U.S. farmer finds a way to borrow corn and wheat acres and reach a 79.0 million soybean acreage level, with an implied carryout of 180-200 million bushels, the November futures wouldn't look nearly as dynamic as the old-crop contracts. "At that point, July prices could rally over November," he says.

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