Corn Euphoria: Is It Time to Take a Step Back?

by: Dan Carty

I have a general rule when I trade. When the mainstream media finds out about the success of a given trade, I tend to believe the trend is nearing an end and this will then have me trade more conservatively – in short following the trend instead of jumping in front of it.

Yesterday, I wrote about how I received four calls yesterday from clients interested in getting into the corn market – all from a news story on CNBC talking about the corn markets and ethanol’s recent move. This worries me for a few reasons. First, the novice commodity traders are now looking at the market and interested in joining this “multiyear rally” in corn which actually began a few months ago. Also, the fact that CNBC is running a story about the popularity and demand for corn usually indicates we are near a top of sorts – at least for the short term. Both of the factors are reasons for caution.

Exploding Corn- Grab a Bucket
Taking those two facts into account, you can imagine my surprise yesterday that the long side of the corn trade lives on. Corn exploded again to the upside pushing another 7 points higher with the December contract hitting the 350 level into the close thanks to expected bullish fundamental data later this week. I argued a while back that Corn could not sustain the bullish move at the time if the back month contracts did not rally and stay with the front month contracts.

Yesterday, the back months were stronger than the front months by a point or two which is the opposite side of the trade (but the same bearish divergence in my opinion). Wednesday morning, I fully intended to be flat by the end of the day but guess what – my buy stop was tripped and I ended the day up 5 points and long. This trade has occurred so many times over the last past months that I am considering just trading Corn!

In all seriousness, the fact that I am getting into the market and making easy gains like the one mentioned, indicates that the long side of the trade may be getting tired or this easy trade maybe nearing an end. I have had so much success lately trading this market that I cannot help wonder how much MORE success the hedge funds have had with this same trade (since they are generally smarter, I think).

Beware of Day to Day Choppiness
In the past, when a commodity, currency or futures market has traded like the current corn market, the following period has become very choppy for the market, leading to treacherous conditions for the momentum trader. Generally, the monthly chart trends will look good but from day to day, the volatility will eat up the traders as stops get tripped and losses pile up. The most glaring example of such is the crude oil market which had many easy money gains last year but has been plagued by irregular trade since. While the long term trend of crude has been somewhat methodical, the short term has been very difficult to trade creating a high standard deviation of the gains and losses.

Now, some grain bulls will point to the fact that wheat and corn really have not participated as much in the recent rally in commodities or really at all over the past 15 years and the rally at the moment is about demand and catch-up thus eliminating this environment of choppy trade. If one looks at the Dow Jones / AIG Grains index, you will notice the index traded near 140 in 1996 and since it sits at 50 today, the bulls perhaps have a case that can be made and possible upside in their trade. But at the moment, the long term chart is moving into a hefty resistance area that the weekly chart confirms. Of course things change if that 55 level is taken out but till then, I remain skeptical.

This is not to say that I will pack up my corn trade and walk away from the complex. I am holding the trade on the long side and then will evaluate it as each day goes by. While I realize the risk is rising, I have my stops in the market protecting against problems that may occur. The next big report is Thursday when the supply and demand numbers are released. Could that be the catalyst that trips up the bullish trend? We will see.

Corn index