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Farmers Face Marketing Against Short Rallies

Yes, the wheat market has rallied 60¢ since May 13. And yes, the corn and soybean markets have benefited in a small way. But the rallies are short-lived, supported mainly by the funds covering their near-record short positions in all three markets.

On Tuesday, most farm markets are falling by double-digits.

As a result, marketwatchers urge farmers to not get faked out by these rallies. Instead, keep an eye on the broader bearish outlook, and reward the market by selling something into these rallies.

As of last Friday, the speculative funds are net short the wheat market by 90,610 contracts, near the record short position of 111,373 since June 2006. For corn, the funds are net short 125,960 contracts, just shy of the record of 132,191. And for soybeans, the spec funds are net short the market by 43,485, with a record level of 54,855 contracts.

“The speculative funds are near record because the forward fundamental outlook is bearish,” says one CME Group floor trader, choosing anonymity. "Every new contract low rewards the ‘short’ and encourages more interest to join the break. It's our experience that the speculative fund short can exist in the market for a long time. The record short, however, speaks to the potential magnitude of short covering if fundamentals change or are threatening change.”

The recent rally in wheat was the combination of several facts that threaten the short with a counter fundamental. However, unless those bullish fundamental factors persist, (wet, cold wheat weather in the Dakotas, hot/dry wheat weather in Russia, and China lowering wheat output), the broader bearish outlook will not change.  

“Once these events subside, we will find our ourselves with less shorts involved and markets that are still bearish, with crop developing in good weather going forward. The rally only made U.S. wheat even less competitive for export, which has been much of the problem all winter/spring,” the CME Group floor trader says.

Jacob Burks, Wedbush Futures grain analyst, says the markets need the fund speculators to create the liquidity to function.  

“The funds have created a lack of confidence in the marketplace itself, but realistically have only given farmers more opportunity,” Burks says. I do believe that the way they (funds) trade (algo trading) is causing most of the uncertainty. However, it’s the last five years of easy profits that have created the farmer’s attitude of holding on to grain for a long-term rally.”

Looking at the big picture is mandatory. Yet, so far, demand always keeps up with the growing supply, Burks says. “This could be the first year we see back-to-back big crops, pushing carryout to 2.0 billion bushels. Since ethanol, we haven’t had a burdensome carryout. If this becomes the norm, farmers will have to remember how to market grain among thin margins.”

Burks adds, “I highly encourage using options to protect price, and these quick rallies that the Funds give us are perfect opportunities to purchase put options. Right now, the August Short Dated options allow you the opportunity to get beyond most of the pollination for the corn crop.”

The dilemma for farmers and speculative traders is the same, according to the CME Group floor trader.

“It’s hard to recognize in real time, lasting changes to fundamentals. Every theme has a beginning and an end, with a breadcrumb trail along the way,” the floor trader says.

"For instance, if bird flu ends tomorrow, it won't be a bearish factor, because the overall kill count is not that large relative to the broader market. At the same time, the funds will keep trading it because they don't know when it will end.

"In addition, today could bring a weather forecast for 100°F. weather for next week. But we don't have that forecast today.

"The point is, the market would short-cover on it (a hot forecast), but if it lasts only one day, it’s not that relevant. But you can imagine the short covering we would see in corn if it was true, at least for a day. It’s human nature.”

So, rallies due to short-covering action are expected to continue this spring and summer. The farmer's challenge will be to decide to sell into the spikes or wait for The Big One.

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