Posted by: usset001 | October 5, 2010

Wheat spreads in Chicago speak to the tone of the market

December 2010 wheat futures

There are several ways to identify a bull or bear market. One way is the most obvious; watch the direction of prices over time. Another way is not so obvious; watch basis and looks for signs of a strengthening basis (cash prices rising relative to futures prices – a bullish tone) or a weakening basis, Still another way is even more subtle; watch inter-delivery spreads (price spreads between different delivery months of the same commodity, i.e., November and March soybeans). In bull markets, inter-delivery spreads will narrow – the nearby contract will gain relative to the deferred contract. This could be characterized as a decreasing carrying charge or an increasing inverse, depending on the where the market started.

Dec'10 / May'11 wheat futures spread

The attached charts show the last six months of action in the Chicago wheat market. The first chart shows Dec’10 wheat futures prices, which bottomed out at $4.75 in early June, rallied to a high of $8 in early August and currently trades at about $6.50 per bushel. The second chart looks quite similar, but it is a chart of the Dec’10/May’11 wheat spread. The spread reached its widest carry of 50 cents per bushel in early June (Dec’10 wheat at a 50 cent discount to May’11), at the same time that prices were at their low. As market prices rallied, the spread narrowed, from a 50 cent carry to a 20 cent inverse in early August. The spread has once again widened as wheat prices backed-off from early August highs.

Here’s the interesting twist: While Dec’10 wheat futures have retraced back roughly 50% from their early August highs, the Dec’10/May’11 spread has returned to their early June lows of a 50 cent carrying charge.

The spreads are telling me that the bull move in wheat is over.

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