Crude, yield curve & coffee-sugar reversals

A look at long-term trends of commercial interest in the CFTC’s “Commitments of Traders” report.

The  Commitment s of  Traders report has provided us with four setups and three distinct styles of COT trading this month. First, let’s revisit the crude oil setup from last month. Crude oil producers have set another net short record position. Conversely, speculators have increased the size of their bets that the market will continue to move higher even though the market is the highest it has been since November of 2015. The speculators’ herd mentality creates an inverted pyramid, which leaves them holding their largest position at the market’s peak. 

Speculators’ recent purchases now show that they are carrying 5.5 long contracts for every short. As mentioned last month, this ratio peaked at 6.2 in June of 2014, just before crude’s multi-year decline. This market is solidly in the speculative bubble category, and it wouldn’t be a surprise to see a washout before Memorial Day and the summer vacation driving season.

Commercial traders also set a new record in the U.S. five-year Treasury note. The commercial traders have been heavy buyers along the short end of the yield curve while remaining short the 30-year Treasury bond at the long end. These actions are reasonably in sync with Federal Reserve plans for the coming year as they continue to tighten. The tightening macro outlook makes one wonder at what the near-record speculative long position is looking. Meanwhile, the commercial traders’ position indicates that the short-term Treasuries are oversold at this time and may have one more bounce before both long and short rates can rise in a more parallel fashion.

Coffee and sugar have both been in protracted downward trends. Coffee has declined by 20% and sugar by 25% during the past year. They also both have growing commercial bids while heading toward periods of seasonal weakness. Both coffee and sugar tend to perform poorly in March. Our research has shown that the commercial traders tend to lead seasonality, rather than fade seasonality. This makes the record-setting commercial coffee bid paradoxically interesting.  

The pending periods of weakness likely will attract further speculative selling in both markets. This will create the opposite trade of the crude oil market. The speculative short position in coffee increased by nearly 50% as the market reached its lowest level in years this past November. Meager seasonal declines in March could be the first clue that this is a speculative short trap. A reversal higher coming out of this period could provide a great long entry point as late-to-the-party speculative shorts are forced to buy back their positions at a loss due to the market finally being sold out.  

About the Author

Andy Waldock, owner of the brokerage firm Commodity & Derivative Advisors and the subscription service COTSignals.com, is a third generation commodity trader with over 25 years of experience on all of the main U.S. exchanges.