We are nearly out of adjectives to describe commodity markets over the past year. It's surprised us as much on the way down as it did on the way up.
This market is hard to describe and, from the standpoint of risk management, very difficult to handle. I detect but one area of common agreement among market players, economic pundits and casual observers: The speculators did it.
This assertion was the focal point of the CFTC forum last April, as market participants searched for the reasons behind record-breaking prices for agricultural commodities.
I thought the CFTC did a credible job of presenting evidence to the contrary. Since then the markets turned. It's time to revisit CFTC data on commercial and speculative positions to see if we can unravel the mystery.
I struggle with making sense of the Commitment of Traders report, and the more recent addition of the Commodity Index Traders (CIT) report. Combined, these reports offer insights into open futures positions held by five categories of traders: large non-commercials (speculators), large commercials (hedgers), large non-commercial spread, commodity index (generally the new breed of passive, long-only index investors) and non-reportable positions (small speculative and hedge positions not accounted for in the first four categories).
SOME ANALYSTS HAVE claimed to unlock the secrets hidden in these figures. The only analysis that makes sense to me is, “Watch the large commercials.” This makes sense, not because large hedgers control the futures market; rather large hedgers reflect the underlying cash market.
If grain handlers and merchandisers (short hedgers) are buying more grain because a crop is larger than expected, we will see more hedging pressure. Hedging pressure, in turn, creates lower prices and a correspondingly large increase in commercial short positions.
Conversely, if grain exporters or processors (long hedgers) see good demand and sell more products than anticipated, we can expect higher prices and a correspondingly large increase in commercial long positions.
The chart below shows our rollercoaster ride in corn futures prices over the last 12 months. Prices started under the $4 mark in October last year, rose to a peak of nearly $8 in early July and retreated back to the $4 mark during the current harvest. Also shown is the share of long open interest held by each of the major players in the market (non-reportable positions were omitted — they generally hold 10% or less of the long positions).
START WITH THE CIT longs. One year ago, they represented about 20% of the long open interest. Eight months later and $4 higher, they held the same market share. What has changed in the last four months? Futures declined sharply and the CIT share of open interest remains at…about 20%. Likewise, the long commercial share of open interest has been a relatively steady 23-27% of the market.
Now look at the non-commercial longs. After an initial spurt higher, their share of long positions decreased as prices increased, and continued to decrease as market prices crashed. Only the share of non-commercials spreads increased and, by definition, they represent both long and short positions in the corn market.
My research included similar data on short positions in the corn market, and long and short positions in the soybean market. It would be convenient to conclude that the speculators did it, but I can't find the evidence.
Ed Usset is a grain marketing specialist for the University of Minnesota Center for Farm Financial Management (CFFM). He can be reached at usset001@umn.edu.