Boring Corn Market Could be Income Stream for Option Sellers

Boring Corn Market Could be Income Stream for Option Sellers
Jan

16

2015

Boring Corn Market Could be Income Stream for Option Sellers

tn-james-blog2

In Thomas J. Stanley’s book, The Millionaire Next Door, the author claims the typical millionaire is not the flashy, limo driven, jewel laden easy lifer that most middle class people associate with the term. Rather, he is more likely to be a hard working business owner or professional who manages his money well, living quietly amongst his neighbors in a not out of the ordinary house.

If you’re reading this column, you can probably relate.

If you apply this example to the commodities markets, you may find correlation – at least as it applies to option selling. The flashy, “flavor of the month” headline grabbing markets are often not the best markets in which to make money. Rather, for option sellers, the back page, sleepy markets with a strong fundamental holding them above or below a certain price level are where the real cash is – volatility counters be damned. (You can read more about this in our new Free publication for high net worth investors – The Option Selling Solution.)

For a current example, allow me to present to you the Corn market.

Corn Market Fundamentals – and Hurricanes?

I live on the Gulf Coast of Florida for much of the year. Hurricanes, and watching for hurricanes, are a big deal here. From June through November, we have a “tropical update” on our local evening news. This past year, as a local weatherman explained it, global wind currents created a trough of high pressure over and around the state of Florida. When hurricanes did develop in the Atlantic and moved towards the United States, this pressure trough would deflect them, shooting them back out into the Atlantic like a pitching machine fires a baseball. Now, when a storm came rumbling across the Atlantic, did that tell us where it was going? No. But it gave us a pretty good idea where it shouldn’t go. Not a guarantee or certainty by any means. But a pretty good idea.

That same scenario is playing out in the corn market right now. Corn has it’s own “high pressure trough” of air, keeping prices pushed away from a certain area. This trough is a current fundamental known as massive supply. And to borrow a quote from a weatherman, “conditions are not favorable for bullish development.”

Ask most brokers or analyst about corn right now and your responses are likely to be something like “not much going on,” “looking for direction”, “consolidating while we work through current supplies” et, et…

Doesn’t sound too exciting. The bull hurricane must be somewhere else.

As an option seller, that should be music to your ears.

Corn Fundamentals Macro

We don’t spend a lot of time covering macro economics simply because so many other authors and media do. These are widely available and even if you read the Journal once a week or watch CNBC or Bloomberg now and then, you’re probably somewhat aware of the overall storyline. That doesn’t mean this isn’t important. In fact, in the upcoming edition of our OptionSeller Monthly Newsletter, you’ll find a full feature article on the unique situation the global economy finds itself in – and how you can use it in your option writing. However, for now, lets just cover some of the main points, and how they may affect corn prices:


  1. While the US economy seems to be getting back on track, the rest of the world is slowing economically (See especially Europe and “emerging” markets.) While food demand is often least and last affected by economic sluggishness, a price headwind for commodities in general currently is in place.
  2. As a result of #1 above, coupled with global interest rates, the US dollar remains strong against most major currencies. This adds pressure to commodities prices as a whole.
  3. Sagging Oil prices have punished Ethanol producer profit margins, cutting corn demand from that industry. Nearly 40% of the US corn crop is now routed into ethanol production.

These factors notwithstanding, overall demand for corn worldwide remains brisk. We just don’t see a big surge upwards in demand for 2015 over 2014.

But demand isn’t the main story in corn right now. The story is about supply.

Corn Fundamentals Micro

While grain markets can get media attention during planting and growing seasons, corn now finds itself in a relatively “quiet” time of year as far as production goes. The US harvest is over and the South American harvest won’t be widely available for a couple of months. After staging post harvest highs in December, the market is now has a clearer picture of what the 2014 US harvest actually is and will have to digest that in the coming months.

And there is a lot to digest.

2014/15 corn production is estimated by the USDA to be 14.216 billion bushels – the largest US corn crop in history. Total supply has also reached historic levels.

graph-corn-supply011215


US Corn Supplies are now at record levels

Record US production has contributed to the highest global corn ending stocks in 15 years and the largest world stocks to usage ratio in 12 years.

graph-corn-supply011215


Global Ending Stocks at at their highest levels since 1999

What this Tells You

What this tells you is that the big picture is one of excess supply in corn – at least for the time being. To the extent that can or will push prices lower remains to be seen.

Our theory? Funds bought the harvest lows and rode the trend into the end of the year. However, this technical buying drove prices beyond fair values. Now the market will have to consolidate to account for the excess supply. This theory seems to be validated by the huge 270,450 contract net fund long position in corn. Commercials, who often position based on fundamentals, are heavily short the corn market.

Regardless, we’re not so concerned as to what prices will do as with what they will not do. Going back to the hurricane example, the supply picture creates a big impediment to significantly higher prices in the near term. It’s corn’s high pressure “trough” if you will.

In short, while it is unclear if, when, and how far prices will move lower – it seems unlikely prices will trade substantially higher.

That scenario is custom made for the following strategy.

Recommended Strategy

While Chinese buying could eventually come in to support low grain prices – we still see that as another 3-6 months out. With excess supplies burdening the Corn market and US planting season still 3 months away, a sharp sustained rally in corn seems unlikely in Q1, 2015. Therefore, a call selling strategy seems to be a high odds way to take money out of the steady to weaker corn prices.

July Corn

graph-julycorn4_50call


Selling the July Corn 4.50 Call

We like selling the July 4.50 call options as we don’t see prices headed anywhere near those levels – at least prior to US planting weather coming onto the radar screen. Look to take a premium of $500 to $550 on the next up day or two in corn. Minus a significant rally, we would expect to take profits on these sometime in early to mid April. A sustained downtrend in corn may allow a trader to create an income stream by selling additional calls on the way down. This is an advanced strategy however that should be accompanied by a professional.

Conclusion

We will be seeking opportunities for positioning client accounts in Corn and other commodities during the remainder of January.

Learn More

Option Seller Discovery Kit

If you are a high net worth investor interested in learning how You might be able to work directly with James Cordier and Michael Gross in an option selling account, be sure to request your Investor Discovery Pack Today at www.OptionSellers.com/Discovery. This comprehensive package is free and there is no obligation.

Learn More about the Kit

James Cordier is the founder of OptionSellers.com, an investment firm specializing in writing commodities options for high net-worth investors seeking outsized returns. James’ market comments are published by several international financial publications and news services including The Wall Street Journal, Reuters World News, Forbes, Bloomberg Television News and CNBC. Michael Gross is an analyst with OptionSellers.com. Mr. Cordier’s and Mr. Gross’ book, The Complete Guide to Option Selling 3rd Edition (McGraw-Hill 2014) is available at bookstores and online retailers now.


Price Chart Courtesy of CQG, Inc.
Fundamental Charts Courtesy of Hightower Research, Inc


***The information in this article has been carefully compiled from sources believed to be reliable, but it’s accuracy is not guaranteed. Use it at your own risk. There is risk of loss in all trading. Past performance is not necessarily indicative of future results. Traders should read The Option Disclosure Statement before trading options and should understand the risks in option trading, including the fact that any time an option is sold, there is an unlimited risk of loss, and when an option is purchased, the entire premium is at risk. In addition, any time an option is purchased or sold, transaction costs including brokerage and exchange fees are at risk. No representation is made that any account is likely to achieve profits or losses similar to those shown, or in any amount. An account may experience different results depending on factors such as timing of trades and account size. Before trading, one should be aware that with the potential for profits, there is also potential for losses, which may be very large. All opinions expressed are current opinions and are subject to change without notice.

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