In the past three years, nearby soybean prices have seen extreme volatility. After hitting a low of $5.27 per bushel in September of 2006, record highs of $16.63 were made in July of 2008. Since mid-2008, prices have trended lower (see “A wild ride”).
As the global economy struggles to emerge from a recession, what are the prospects for the soybean market? While recent U.S. data appears to have shown that the pace of the economic decline has slowed, the extent and rate of an economic recovery remains in doubt. Some feel there is the potential for inflation pressures to emerge next year after several of the world’s major central banks have reduced interest rates to historically low levels. The downturn in Asia seems to be shallower than that of the U.S. and Europe and has been aided by large stimulus intervention and recent interest from industries to rebuild inventories. From a demand point of view, the overall worldwide economic tone does not appear to be robust, which could weigh on soybean prices.
Factors to be aware of on the supply side are the early indications that the U.S. soybean crop yield could be upwards of 43 bushels per acre. This would leave total U.S. production in the range of 3.3 million bushels, which would be a record crop. In addition, the Southern Hemisphere soybean crop prospects appear much improved from last year. The El Nino weather pattern, which is currently forming, is expected to generally generate warmer and wetter than normal conditions in their spring and early summer. If this were to occur, it would greatly help Argentina, which is coming out of a harvest that has been reduced by drought. Their political situation is tenuous, because of the government’s removal of the 35% export tax and the implementation of a sliding format. This new formula is based on world prices, which currently bring the rate to around 40%. The possibility of a reduction in planted acres is a wild card going into the end of the year. The El Nino pattern is worth watching next summer for the U.S. growing season as it usually causes hot and dry conditions in the Midwest.
The demand side of the forecast appears to be heavily dependent upon China’s soybean demand, which has been roughly growing at 5-8% year on year. It shows little signs of slowing. The China National Cereals, Oils and Foodstuffs Corp. recently announced the building of a soybean processing plant with capacity of 1.2 million tons a year. This new facility, which is expected to be operational in about a year, will increase the already substantial soybean imports to China. Now the question is how to trade the market going forward? I would look for an opportunity to sell the March–July call calendar spread. Look to take advantage of the possible El Nino weather pattern and the possibility of inflation, which would help the back months to gain on the front months.
There is spread risk in this options trade. While the market will most likely remain in a sideways pattern for the first quarter, it is possible that in the beginning of the year, prior to the South American harvest, the March could move to a premium to the July. Less aggressive traders should consider selling a 20¢ higher strike in the March, which will expose you to less risk. For a spread that is about a dollar out of the money, expect that the March leg would expire worthless, while the inflation play would kick in to increase the price of the July call.
Tom Feeney has traded futures at the Mid-Am exchange, the MATIF in Paris and in London on the Liffe. After trading in the Dow futures for seven years, he became a broker with Archer Financial Services. He can be reached at thomas.feeney@archerfinancials.com.