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July/Nov spreads stay popular

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, 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.

In addition, with pressure on the flat-price and speculators beginning to transition from old-crop to new-crop positions, any bearish sentiment on the trading floor connected to new crop acreage and production could lead to lower new crop prices but leave the July contract to ration scarce old crop supplies into the fall time frame.

March Planting Intentions

With the USDA's March 31 Planting Intentions Report, it's the first solid statistic for new-crop.

"If we get the soybean acres the market thinks we need, maybe the July/November futures spread could return to stronger levels. "However, this year, the problem is there are tight grain stocks in all of these markets, particularly in corn, and the fear is we won't get the soybean acres. So, new-crop stocks could look as tight as old-crop, keeping the flat-price high."

And while an inverse would most likely be maintained it's often harder to promote inverses at historically high flat price levels.  "There would also be a tendency for the Exchange Traded Funds and Index players to roll old crop into new, putting some pressure on the spread into July.  These are just some of the concerns to think about when trading the Old versus New crop spreads," the floor trader says.

Three weeks ago, when we started canceling old-crop soybean sales to China, that was the first sign of a problem with the market, he says. The spread went from $1.20 over to $0.37 over. "Maybe this tells us that some rationing has started. These are the dynamics we are trading, as we think about the July/November price spread," he says.

July/Dec Corn

Similarly, the U.S. corn stocks are tight and increased ethanol production keeps the trade concerned about supply.

"We'll be keen on what the corn stocks look like in the March 31 USDA Report. Because so much demand is fed on-farm, it's harder to follow the corn use on a weekly basis vs. soybean use. So, if the report shows some relief on corn stocks, we could start relaxing this July/Dec corn spread."

But for now with corn, the trade believes the farmer will plant the needed acres this spring(something close to 93 million acres), due to a current price advantage in planting that grain over soybeans.  If realized, that gets the U.S. carryout back to a 1.0 billion plus. The threat to the spread however is that if a bear bias develops in new crop it will again leave the old crop July to ration scarce stocks through the summer months.

The spreads will also look at new crop weather and crop progress for both corn and bean and pipeline issues with the grain trade out of Brazil and Argentina for soy. All contribute to a very volatile spread.

Highly Volatile spreads

When you are trading old-crop vs. new-crop fundamentals, it can be a very volatile spread. "It can almost be as risky as trading flat-price. This is coming into focus, as we get into the new-crop weather scenario and new-crop acres," he says.

Farmer Caution

If you are a producer and inclined to be involved in a forward hedge, know that if you sold old-crop there is no reason for it to converge with new-crop prices.

"The July soybean futures contract could expire on an absolute high, and never see that price in November. You can't forward hedge a new crop in an old crop slot. They don't have to converge. Your elevator will roll you from old-crop to new-crop, but at a price, at least the cost of the inverse, ouch!"

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