Supply and demand still reign as top issues for grain traders, but the factors within this equation are changing with the times. Take for instance corn. Sure, traders still look at the number of corn acres to be planted, but today savvy traders also know how many ethanol plants are in the works. Why so much focus on ethanol? Mainly because funds have been diving in head first.
“Corn certainly has seen an influx of outside money because of ethanol production increase,” explains Bob Wiedeman, president of Strategic Ag Trading. He adds, “We are close to our all-time high of long positions by directional funds and they still have room to see buying come into it.”
Statistics certainly support the funds’ buying spree. Currently, there are 97 ethanol refineries in the United States, with 35 under construction. To meet the requirements of the Renewable Fuel Standards, which was put into law with the Energy Policy Act of 2005, renewable fuel use will need to expand to 7.5 billion gallons by 2012 — this year the United States will use 4 billion gallons. The majority of the renewable fuel used will be ethanol, resulting in the domestic ethanol industry doubling in the next six years. So with funds’ positions already in motion for this trend, the overall forecast for corn is sideways to down in the near term with a bullish long-term outlook mainly based on an increased demand for ethanol. In early May Wiedeman said corn would slip a little in the short term, but for the long term he says, “With $74 [per barrel] oil it is tough to say where corn will go. The new crop could approach $3 [per bushel] without a problem.”
Dan Basse, president of AgResource Company, shares a similar forecast. In the near term, he sees corn experiencing range-bound trading. “As we build more ethanol plants, in 2007 we start to be more optimistic,” he explains.
In addition to an increase in ethanol demand, Darin Newsom, senior grains analyst with DTN, points out the corn market also has a strong feed demand domestically and abroad to contend with. Newsom says, “I perceive a bubble in next year’s market. The market could become very volatile.” However, Newsom notes with a consistently strong demand there is always the fear of what could happen if supply problems arise.
Dan Cekander, senior grain analyst with Fimat USA LLC, explains, “We discounted a lot of the projections for declining corn carryover over the next two years because of big expansion for corn use in ethanol.”
While supply worries are natural, especially with a growing demand base, when push comes to shove not many analysts fear a significant drop in yields. Why the optimism? Mainly due to the use of GMO (genetically modified organisms) technology in growing corn.
“We are getting closer to a drought tolerance with corn. There is less and less of a weather premium,” Basse says. He points out last year 49% of U.S. farmers planted GMO seeds, however, this year 65% to 75% are expected to use genetically modified seed technology. “It is because of this that corn yields can keep up with corn demand,” Basse says, adding that with a diminishing weather premium, corn traders are thankful for variables such as ethanol and fund traders to keep the price of corn moving.
Doug Harper, editor of The Brock Report, points to increased ethanol demand and drops in planted acres compared to a year ago as the major drivers for corn. He says without a weather problem he doesn’t see a huge amount of upside for corn. “I see a little of a down side if we get excellent yields. Corn could move 20¢ to 25¢ down,” he says. If a severe weather problem were to develop and corn experienced production problems, he says corn could see prices between $3 to $3.50 per bushel.
As for summer premium rallies, Tim Hannagan, senior grain analyst with Alaron Trading, says he expects the price of corn to stay between $2.50 and $3.00. “I can’t be bullish corn in 2006, but I can be friendly,” he says.
Hannagan says his “friendly” stance lies with the fact that while ethanol demand is greatly affecting corn, carryover stocks are just too large. “We have a carryover at the start of the new market year of 2.5 billion bushels,” he says. “Going into growing season, we have to draw through our inventory, there is just still too much corn around this year for the contract to exceed $3.”
Hannagan explains this year ethanol producers will only buy as much corn as they need, and large amounts of corn will still be on farmlands. “This year ethanol producers don’t want to own the corn; next year will be very different. You will see very little corn on the farm because processors won’t want to take the risk to pay twice as much,” Hannagan says. He adds ending stocks will begin to rapidly reduce in years to come, and by 2008 ending stocks could be fewer than 1 billion. As a result, Hannagan says $4.00 to $4.85 for corn in 2007 and 2008 is not unthinkable.
SPARKS IN WHEAT
Often when it comes to the grain sector, futures traders look to soybeans for volatility and large price moves, but this year many analysts agree wheat is more interesting than the bean market. Another oddity in 2006 — Chicago Board of Trade (CBOT) wheat is not taking center stage. The Kansas City Board of Trade (KCBT) and the Minneapolis Grain Exchange (MGEX) are where traders are focusing their attention. “The speculator money seems to be staying out of CBOT wheat. Exports are incredibly slow and the demand is just not there,” Newsom says. On the flip side, Newsom explains KCBT and MGEX could be set for some incredible rallies.
Newsom, who looks at the spreads between commercial and noncommercial traders, explains both of these groups are bullish KCBT wheat. “I would target the $4.95 to $5 area yet this spring, all things being as they are,” he says. He adds the only reason CBOT wheat is holding on is because of the strength of the KCBT and MGEX contracts.
Basse agrees hard red winter wheat has the most potential for larger price moves this year. He says hard red winter wheat could reach new highs and see prices up to between $4.90 to $5.40 per bushel. The KCBT’s hard red winter wheat crop is especially critical this year due to droughts in Oklahoma and Texas. And while most analysts expect hard red winter wheat to stay above $4, analysts do not expect CBOT wheat to pass $4. Harper says soft demand and solid supplies will keep the price of CBOT wheat to a minimum. “They really are two different commodities,” he explains.
Hannagan agrees there is plenty soft red winter wheat on hand and the September CBOT wheat contract, which has benefited from spring rains, could drop down to a range between $3.25 and $3.35. However, unlike other analysts, Hannagan is not convinced other wheat contracts will rally. He explains that because of the quality of this year’s wheat market the demand will not be as strong as many say it will. He predicts the KCBT and MGEX contracts will pull back somewhere between $4 and $4.10.
NO TEENS FOR BEANS
For months the soybean market has painted traders a bearish picture. Record carryover, sluggish export demand and corn giving up acres to beans have kept soybeans down for the most part. “If you look at the supply or stock data for soybeans it is hard not to come up with a bearish outlook,” Basse says. In late April he explained unless there is major weather problem, soybeans will have difficulty retaining a rally and move down to between $4.70 and $5.00 by late summer, early fall.
Newsom agrees that with beans, bears have the upper hand. “One thing soybeans have not been able to do is see noncommercial traders get interested to a large degree since late August.” He says without this commitment soybeans will be unable to sustain a rally. He adds that without dynamic variables such as South American weather problems or a significant soybean rust scare, if the market sees a rally it most likely will be a result of weather problems coming from the United States.
A record large old crop supply is the main reason Cekander sites for why soybeans have remained bullish, however, he notes, “People have been surprised that soybeans have been able to hold their price levels given their large carryover positions.”
Traders looking for a bullish move in beans realize corn acres once again this year are dropping, mainly due to high fuel costs, and soybeans are being planted in their place. The result for bean traders is a large new crop right on the heels of record old crop supplies. “Unless there are major production problems in the Midwest, November soybeans are overvalued at $6,” Harper explained in late April when the November beans where trading around $6.10 per bushel.
And on top of a strong supply situation, like corn, soybeans also are seeing less of a weather premium due to genetic modification. “Today’s soybeans are very drought resistant,” Hannagan says.
What could throw off this fundamentally bearish soybean sentiment? As with corn, the demand for alternative fuels could change beans’ landscape. In early May, soybean futures climbed as commodity funds and exchange traded funds were attracted to soybeans’ growth prospects for their role in biodiesel fuel. As crude oil climbs, the buzz around ethanol and biodiesel fuel gains momentum. And while soybeans are certainly affected, soybean oil will be the main driver. “Large funds are starting to short soybeans and buy soybean oil,” Hannagan says. He explains soybean oil has begun to follow oil prices. “Funds are moving in. Large equity funds are telling us what they know, which is to buy bean oil. And they are just getting started,” he adds. Also, Hannagan notes the demand for biodiesel fuel is not just coming from the United States — it is worldwide.
He explains estimates coming from China peg the country to increase its soybean oil use by six times in the next three years. As for price predictions, in late May, Hannagan said if beans experience a weather scare soybeans could trade to $6.35. “However, bean oil is the wildcard,” he says.
Yet another newcomer to the grains sector this year includes single commodity indexes introduced by Dow Jones. “These indexes will keep spreads wide, but will not have a lasting impact on price,” Basse says. The introduction of new commodity indexes and exchange traded funds based on commodities is bound to continue to attract the attention of equity funds. “Traders need to remember that large equity funds are very focused on chart parameters. They are most likely 90% chartist and 10% fundamentals,” Hannagan says. He explains that because equity funds are new to the market, in many cases the funds have not yet quite mastered the fundamentals behind the commodities markets. “This will take some time,” Hannagan says.
Carla M. Bauch is a freelance writer in Chicago.