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Trading the Prospective Planting Report

March 28, 2012 | Comments: 0 | Views: 105

The March Prospective Planting report by the USDA really sets the tone for the growing season. The United States is the world's largest producer of corn and soybeans and this report basically tells the world what to expect our production to be. This report will also tell us what we can expect our crops to be worth on the global market. The importance of this cannot be overstated and the errors in its accurate prediction have been growing wider with each year. In fact, this report has produced limit moves in six of the last seven quarterly reports and it appears that the small speculators may have bet too much counting on a bullish report.

This first drew my attention on Monday while analyzing the Commitment of Traders report. Small speculators and managed money, both categorized as speculators, now hold a record net long position. I was surprised that so many traders were willing to risk positions heading into such a major report with only the seasonal bottom to support their efforts. The combined thought of the pending Prospective Planting report along with a market that has rallied nearly 13% on the year leads me to wonder how much higher this market can go without a pullback.

Global demand continues to grow even as we set new annual production records due to increased acreage and yields. The stock to usage ratio, which reflects how much we have left in reserve, is currently around 18.5% on the global market. This is a 13-year low. The main reason for this decline has been surging demand from developing countries. Chinese soybean meal consumption has increased nearly 300% in the last 10 years to around 48 million tons annually. This goes back to the very basic and primal desires of a better diet, better clothes and finally, better shelter. By comparison, China's population has increased only 17% over the same period. Therefore, the change in diets is based on the wants of an economically empowered society rather than a mushrooming population.

The Chinese story is nothing new. The real question is, "How do we trade the grain markets around the report?" Morningstar Data for Commodities now provides a treasure trove of data for market research anoraks like myself. My work with Morningstar consultant Shiv Arora has unearthed some intriguing data kernels. The window we analyzed in corn, soybeans and wheat is the five days pre and post report over the last 15 years. We then broke this data down into statistical modules that allowed us to determine frequency, amplitude and validity of the raw data recorded.

We will start with the soybean market. There is a 60% probability that the market rallies 2.78% in the five days preceding the report. Based on last week's closing price of $13.65 per bushel, we could see the market above $14 before the report. The post report effect tends to give back the anticipatory rally and then some. This is a classic case of, "Buy the rumor. Sell the fact." Given the large speculative position and the increased volatility the markets have been experiencing over time, I expect the post report decline could be much steeper if the small speculators and managed money should be forced out of their positions.

The behavior in the corn market is just the opposite. It tends to sell off ahead of the report by an average of 3% with a much higher degree of certainty of 73%. Savvy traders can use this to their advantage in anticipation of a post report rally. The corn market rallies an average of 60% of the time by an average of 7%. These calculations provide us with a pre-report target buying opportunity around $6.26 per bushel and a post report profit target of $6.70.

Finally, the wheat market doesn't derive any benefit from the coming report. The wheat market averages a 6% decline 63% of the time before the report and follows that with a post report decline of 2% a little more than half of the time. The takeaway here is that wheat is best purchased around a target of$6.00 after the report when the market makes its seasonal bottom around the first week of April.

Next week we will look at some of the fundamental factors at play in this year's grain markets like one of the warmest winters on record as well as the global demand issues. We will recap the Prospective Planting report and see how our statistical analysis fared.

Andy Waldockhttp://www.commodityandderivativeadv.com 866-990-0777

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