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Bull & Bear Corn Hedges to Engage Key Crop Report

Posted 06/26/2019 11:54AM CT | RJO Market Insights

Let’s face it, the USDA’s Jun stocks and acreage reports are huge under pretty much any circumstances, let alone under this year’s rain-soaked update following a 6-week, 35% price explosion.  We’ve no idea what the world’s assessment of Fri’s data will be, but a technical approach can and should identify specific levels around which to manage a continued bullish count or navigate a peak/correction/reversal threat.

 

In 21-Jun’s Technical Blog we discussed a very minor bearish divergence in momentum that left 17-Jun’s 4.72 high in its wake as one of developing importance and a micro risk parameter from which scalps can be objectively based and managed.  This momentum failure was obviously of to minor a scale to conclude anything more than an interim corrective dip at this juncture.  After the past week’s languishing however, we have identified 19-Jun’s 4.50 low as our new short-term risk parameter as a failure below this point would define that low as an “initial” counter low, confirming enough of a bearish divergence in larger-degree momentum to more seriously threaten May-Jun’s huge run-up.

Corn Dec '19 60 Min Chart

 

Corn Dec '19 Daily Chart

Traders are reminded that there are two definitions of a confirmed bearish divergence in momentum:  a failure below a prior corrective low or a failure below an initial counter-trend low.  In either case the market confirms the new longer-term trend as down and, most importantly, leaves a more reliable, market-defined high from which non-bullish decisions can only then be objectively based and managed.

 

Looking at the rally from 13-May’s 3.64 low on a daily basis above, a failure below 11-Jun’s 4.27 larger-degree corrective low remains required to, in fact, break the major uptrend.  Relapse attempts shy of that 4.27 threshold could be ere corrections within the still-developing major bull.  Given the historic nature of the 4.50-area on a weekly active-continuation basis below however, as well as the pronounced recovery in the sentiment/contrary opinion indictors back to historically frothy levels, even an admittedly smaller-degree amount of weakness below 4.50 would 1) reaffirm at least the intermediate-term trend as down and, most importantly, 2) leaves highs in its wake like 17-Jun’s 4.72 high and even yesterday’s 4.63 high as market-defined levels from which long-covers, bearish punts and bear hedges could be objectively based and managed.

 

Of course, commensurately larger-degree weakness below 11-Jun’s 4.27 low and key risk parameter will break May-Jun’s uptrend, but by then the risk/reward merits of chasing bearish exposure lower or establishing bear hedges would be poor.  Until such sub-4.27 weakness if proven however, it would likewise be premature to conclude a more significant peak/reversal threat rather than maintain a bullish course that could still have extensive upside potential.  In effect, the market has been accommodative in identifying 4.72, 4.50 and 4.27 as specific and reliable levels around which to objectively toggle directional biases and exposure commensurate with one’s personal risk profile.

Corn Weekly Chart

 

Let’s look at a couple cases where the technical metrics were similar to those we’ve detailed above.  The daily chart below is of Dec’15 corn that shows late-Jun/early-Jul’s price explosion that was virtually identical to this year’s rally.  In 14Jul15’s Technical Blog we labeled a prospective 5-wave rally from 15Jun15’s 3.62 low and warned of waning upside momentum and a sharp recovery in bullish sentiment, virtually identical to the past month’s conditions.  17Jul15’s break below 15-Jul’s 4.32 initial counter-trend low reaffirmed at least the intermediate-term trend as down.  The next day’s break below 07-Jul’s 4.24 corrective low confirmed the bearish divergence in momentum that broke the uptrend and led to extensive losses to Mar’16.

Corn Dec '15 Daily Chart

 

We’ve recently received calls about comparing this summer’s rally to that of 1993.  Here too, looking at a daily chart of Dec93 corn below, we see a 5-wave Elliott sequence up from 14Jun93’s 2.25 low stemmed by 09-Jul’s momentum failure below 07Jul93’s 2.52 corrective low.  Although not shown here, the Bullish Consensus went from 30% to 82% in three weeks.

Corn Dec '19 Daily Chart

 

Revisiting Dec19 corn below, these past cases highlight the importance of a failure below an initial counter-trend low like 4.50 and certainly a prior larger-degree corrective low like 4.27.  Until and unless the market breaks these levels however, the major trend remains arguably up and should not surprise by its continuance or acceleration.  And if the market breaks below 4.50 but then cannot sustain those losses below yesterday’s 4.63 high and certainly 17-Jun’s 4.73 high, then the major bull trend will be resurrected ahead of further and possibly steep gains.

Corn Dec '19 Daily Chart 2

 

From a historic perspective, we’ve discussed the similarity of the price action from Oct’14’s 3.18 low to the major base/reversal behavior from Sep’98’s 1.96 low for the past 2-1/2-years.  The past month’s explosion has confirmed this view that identifies Aug’16’s 3.15 low as THE END of the secular bear market from Aug’12’s 8.49 all-time high.  What is indeterminable is whether this current rally is THE major reversal high like that of 206-to-2008 OR just an intra-base/reversal-process spike like 202 and 2004 before further year-long relapses back to the bowels of the past 4-1/2-year range.  Herein lies the importance of 11-Jun’s 4.2 larger-degree corrective low and key risk parameter.  A failure below 4.27 will obviously break May-Jun’s uptrend and expose a correction lower that could be extensive in terms of both price and time.

These issues considered, a bullish policy remains advised with a failure below 4.50 required for shorter-term traders to step aside and longer-term players to pare bullish exposure to more conservative levels.  Subsequent and commensurately larger-degree weakness below 4.27 would negate any more immediate and broader bullish count and warrant a move to the sidelines by long-term players.  Understanding that Fri’s crop reports could quickly and violently break any of these levels and provide little opportunity to react, below we have structured a bull hedge for end-users and a bear hedge for producers that provide unlimited hedge protection and fixed risk if the market moves extensive against their hedges.

Corn Monthly Chart

 

BEAR HEDGE: SHORT AUG SHORT-DATED 4.60 – 4.80 CALL SPREAD / LONG AUG SHORT-DATED 4.30 PUT COMBO

This option strategy is structured by selling the Aug Short-Dated 4.60 – 4.80 call spread for about 6-cents and buying the Aug Short-Dated 4.30 puts around 6-cents for a net cost of “even”.  This strategy provides:

  • a current net delta of -42%
  • favorable margins
  • zero cost or risk if the underlying Dec contract settles anywhere between 4.60 and 4.30 at expiration 30 days from now on 26-Jul
  • fixed, maximum risk of 20-cents on ANY amount of rally above 4.80
  • virtually unlimited dollar-for-dollar downside hedge protection below its 4.30 breakeven point at expiration.

Corn Price Chart

As a comparison and to show the benefits of the CME’s short-dated options, this same combo strategy above but using the straight Dec options would warrant going all the way out to the 3.90 puts in order to execute this strategy for a similar cost of “even”.  Using the straight Dec options for this combo strategy rather than the Aug short-dated options  would lower the producer’s breakeven point and effective hedge protection by 40-centsfrom 4.30 to 3.90.

In exchange for this higher breakeven benefit however, the Aug short-dated option strategy expires in 30 days rather than 149 days for the Dec strategy, so a hedge strategy would have to be revisited within a month.  But given the history of huge moves from the USDA’s Jun stocks and acreage reports, we believe it’s an easy decisions to structure a strategy with the short-dated options

Corn Price Chart 2

 

END-USER BULL HEDGE:  SHORT AUG SHORT-DATED 4.40 – 4.20 PUT SPREAD / LONG AUG SHORT-DATED 4.95 CALL COMBO

This strategy is the inverse of the bear hedge above and is structured by selling the Aug Short-Dated 4.40 – 4.20 put spread for about 6-cents and buying the Aug Short-Dated 4.95 calls for about 6-cents for a net cost of “even”.  This strategy provides:

  • a current net delta of +36%
  • favorable margins
  • zero cost or risk if the underlying Dec contract settles anywhere between 4.40 and 4.95 at expiration 30 days from now on 26-Jul
  • fixed, maximum risk of 20-cents on ANY decline below 4.20
  • unlimited dollar-for-dollar upside hedge protection above  its 4.95 breakeven point at expiration.

Please contact your RJO representative for updated bid/offer quotes on these strategies.  And good luck on Fri’s numbers!

Corn Price Chart 3

RJO Market Insights

RJO Market Insights specializes in forward-thinking analysis, focused on potential market-moving events and dominant factors driving price discovery. Detailed fundamental and technical coverage across multiple commodity sectors is combined with objectively-constructed trade recommendations to provide an industry-leading product for R.J. O’Brien’s Institutional clients, commercial hedgers, introducing brokers and individual investors free of charge. Content is distributed in both text and audio formats, with specialized service offerings provided by account type.
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