Soybeans Redux: New Volatility Makes Options Richer, Deeper for Call Sellers
Fundamental Picture remains one of adequate, if not burdensome supply
There is a line in the Movie Jaws where Richard Dreyfus, arguing on the phone with “The Oceanographic Institute” presents the argument, and I paraphrase, “Why should I come all the way to Australia when I’ve got a bona fide great white shark right here?”
I present that response to the readers who write in every month asking, in one way or another, “whats next?”
These types of questions are instructive and can be turned into a lesson inside a market article (a bonus for you this week.)
As a serious option seller, the question doesn’t always have to be “whats next.” Oftentimes, the more profitable question can be “where can I sell more?”
A secret to take to the bank is this: A solid option selling market with stable long term fundamentals (bullish OR bearish) can be fertile ground for taking premium for months, sometimes even years. Therefore, as an option seller, the profit question is not always – “what is the next market?” but rather, “where can I take more premium?”
And oftentimes, the answer lies in markets in which you already have positions.
As an option selling investor, you look to mine as much premium as you responsibly can – as long as the market is offering it. That’s why the best opportunities often come by revisiting markets you’re already in. A favorable option selling market tends to stay a favorable option selling market.
Thus, your lesson. And thus, your market this week, soybeans.
Supply Demand Report Brings Soybean Rally – And Higher Strikes for Call Sellers
If you regularly follow our blog, you just saw our soybean feature piece last month. Why would we feature it again?
The same reason Dreyfus didn’t want to go to Australia. Why should be try and force something over in sugar or orange juice when there is a bona fide opportunity right here in beans?
Soybean prices got a jolt of caffeine last week when the USDA’s Monthly Supply Demand report caught the market off guard.
This was the first monthly report to list estimates for 2016/17 crop figures and ending stocks and thus, range of expectations was fairly wide.
The eye opener in the report was the year to year drop in US and world ending stocks. 2016/17 US ending stocks were pegged at 305 million bushels, a near 25% drop from 2015/16 levels.
World ending stock estimates for next year also fell – coming in at 68.21 million metric tons (mmt) as opposed to 74.25 mmt this year.
This was well on the lower end of trader expectations.
There was no one big reason for the reduction. USDA lowered stocks a bit for this year, lowered estimated production a bit for next year and raised demand expectations, especially in 2017.
Soybean prices reacted by adjusting 68 cents higher – hitting 10.91 per bushel early last week basis the November contract. Our previous article was “not bullish” on soybeans due to our projection of excess supply hanging over the market through at least early 2017. That view has not changed – at least not substantially.
But that’s not the story. The story is volatility.
The market took last week to price the report and we feel that has been, for the most part, accomplished. Could soybeans still see some upside as planting season progresses? Of course. seasonal strength during planting is not uncommon. But we believe the majority of the move has already taken place and that call sales are now a better opportunity than they were 30 days ago. There are 3 main reasons for this outlook:
Despite the reduction in ending stocks, 2016/17 will still be the second highest US ending stocks and stocks to usage in a decade (second only to this year) – meaning supplies will remain adequate if not burdensome.
US soybean stocks, despite the USDA’s cut for 2016/17, will still be the second highest in a decade.
OptionSellers.com believes the USDA will eventually have to add 1-2 million acres of additional soybeans to US plantings as a result of this year’s wetter spring – pushing more corn acres into soybeans. This could cause a bearish price adjustment in next month’s report.
2014, the last year with ending stocks below this year’s levels, saw soybeans trek to 13.50 per bushel territory on a spring weather scare before receding to 9.00 per bushel into harvest. In 2015’s supply burdened year, prices rarely ventured above 10.00 per bushel. Our outlook is that beans could possibly push between 11.00 -12.00 per bushel on a weather concern this summer (although none appear developing at current time) but could easily fall back below 10.00 per bushel into harvest.
Barring a substantial weather event and with much of the mystery around 2016/17 production now out of the way, we think soybean prices will begin to moderate in the coming weeks – especially as 2016 US planting nears completion.
The difference between now and 4 weeks ago is this. Soybeans have rallied over $1.00 per bushel since that time. However, last month, you could sell options 2.00 (20%) out of the money. This month, you can sell options nearly $4.00 (40%) out of the money. And this is after the market has already rallied by over 10%. That is the magic volatility brings to the table.
We rolled up our 12.50 calls in our accounts when the market rallied – partially as a precaution and partially to take advantage of the premiums now available in distant strikes. Getting pushed out of short option positions can happen on a burst of volatility. But that is often the best time to be selling new options.
We suggest considering the November 14.60 calls for premiums of $500-$600 this month. More conservative traders can consider the 14.00/16.00 bear call spread for a credit of $500 on additional price strength in beans.
November 2016 Soybeans
Selling the November Soybean 14.60 call option
Selling calls this far above the market allows the market plenty of room to move higher in the short-term if it wants. But it also allows you to be in position to take advantage of longer-term fundamentals, which still appear to favor bears.
Deciphering longer term fundamentals is the essence of successful commodities option selling. Shorter term volatility should not be feared – but rather viewed as the opportunity you’ve waited for.
James Cordier is founder and head portfolio manager at OptionSellers.com. He is author of McGraw-Hill’s The Complete Guide to Option Selling. To learn more about OptionSellers.com’s trading strategy and managed accounts for high net worth investors, request your free Investor Information Discovery Kit at www.OptionSellers.com/Discovery.