As is often the case during the U.S. growing season, soybean prices have been on somewhat of a seesaw through much of the American summer. During this time of year, market direction tends to change along with the weather report as speculators try to capitalize on rising or falling crop projections.
However, as we get into September, harvest looms and the uncertainty tends to come out of the market. Supplies emerge from the fields and into supply channels. Weather premiums tend to fade. Prices can still bump higher as the market adjust to yield reports and weekly sales figures. But the chances of sweeping weather rallies are largely behind us by Labor Day.
Soybeans go through what is known as the “podding” stage – the critical period of crop development similar to the pollination period in the corn crop — in late August. If weather is anything less than disastrous, the crop is generally considered “made” upon completion of podding.
Weather in most of the key Midwestern growing regions was ideal for soybean podding this year, indicating there will be no shortage of soybeans in September.
However, the volatility from the summer “speculation” season is still in the market. As small speculators tend to favor the long side of markets as well as option buying strategies, the premiums in the calls remain plump. That provides an opportunity to sell out-of-the-money calls.
As a seller of deep out of the money calls, you are simply betting against a sweeping rally in soybeans. Beans don’t necessarily have to move lower for you to realize your gains. Prices can move lower, remain stable or experience a moderate rally for you to profit. As long as a substantial rally does not occur over a relatively short period of time, your call options should expire worthless – making all the premium collected your profit.
And there are good reasons why you may choose to believe this kind of rally is unlikely. Soybeans lend themselves well to fundamental analysis. In commodities, that means digging into the numbers of supply and demand. Fortunately, the USDA makes this a simple process through their monthly supply/demand report.
Ending stocks, the amount of soybeans left over at the end of the previous crop marketing year (Sept. 1) after all demand has been met and Stocks to Usage Ratio, the ending stocks figure divided by the previous year's total consumption are two important technical measures. Both of those measures are above previous year levels (see chart).
Source: Hightower Research
While these figures are not inherently bearish, they are not strongly bullish and a sharp rally is the only thing that can hurt us. There are two better reasons why selling soybean calls makes sense at this time: 1) Prices move towards fair value the closer harvest comes. This takes much of the uncertainty out of the market, and 2) As with any agricultural commodity, supply on hand tends to pressure prices. At no time during the year will supplies be higher than at harvest. Thus, barring some type of harvest problem or delay, soybean prices will often taper.
We would look at the March 2010 contract to ensure the most premium opportunity. The $14 call could be sold for approximately 8¢ ($400 in premium) on Sept. 15. With a successful harvest, this strike could move down to a penny within 60 days. If the market goes higher, the value of this option is not likely to rise significantly unless there is a violent upward move and the factors that could cause that are quickly dwindling.
James Cordier is the founder of Liberty Trading Group/OptionSellers.com, an investment firm specializing exclusively in selling commodities options. Michael Gross is an analyst with Liberty Trading Group/OptionSellers.com. Mr. Cordier’s and Mr. Gross’ book, The Complete Guide to Option Selling 2nd Edition (McGraw-Hill 2009) is available at bookstores and online. They can be reached at www.OptionSellers.com.