National Futures and Financial Weekly

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Copyright 1997 by Consensus, Inc.
May 09, 1997 * * 1737 McGee, Kansas City, Mo. 64108 U.S.A. * * Up Dated Daily

The bean bulls have been out in full force the past few weeks and they certainly have plenty of ammunition available to argue for higher prices. Extremely tight supplies (stocks-to-usage ratio of approximately 5%), strong exports, very strong crush rates and a bull spread in July/November beans that went to new highs this week are being translated by many into a strong bull market.

With so many people touting the bull spread in beans, we felt compelled this week to look back over history to see if the spread relationships between July/November beans are in actuality a good indicator of where prices are headed. The results were not exactly what you might expect.

To begin with, take a quick glance at the table. Each year is an indication of that year's July/November spread. The table goes on to indicate the highest and lowest level the spread traded at during the time July soybeans were on the board and the month in which the peaks and troughs were made.

July/November Soybean Spread

Spread Makes New Highs

This past Tuesday the July/November 1997 soybean spread hit $1.89. That's a considerable move from the lows that were made last November at only a 20-cent premium to the July. Looking back through history, there have only been three other times that the July/November soybean spread traded at $1.80 or higher. Those three years were 1973, when the spread went to $5.70; 1977, when the spread peaked at $3.09 and 1984, when the spread peaked at $2.05. Let's look now at some of the similarities of those years and make a price comparison.

Let's start in 1973. This was, as everyone can remember, the first major bull move in soybeans in history. In fact, there's never been another one quite like it since. Here are some interesting facts for that year:

1. The July/November spread peaked at $5.70 in June of 1973. At that time, July futures hit their highest price of $12.90.

2. From June 5 to July 9, July futures dropped a total of $6.60 per bushel to a low of $6.30. They then recovered to expire at $11.87.

3. November 1973 soybeans peaked on August 14 at $9.29 and then bottomed on October 10 at $5.18.

4. The stocks-to-usage ratio that year was 11.9% and the average price at the farm by the time everything was over was only $5.68.

Here are similar facts relative to what happened in 1977:

1. The spread peaked in April at $3.09 with the highest price for July beans having occurred on April 22 at $10.45. From then on the market dropped off sharply, hitting $5.76 on July 12 and then expiring at $6.25.

2. November soybeans peaked on June 6, 1977 at $7.97 and bottomed on August 16 at $4.97.

3. The stocks-to-usage ratio was 7.2%. The average price at the farm, once all the smoke cleared, was $5.88.

Now let's take a look at 1984:

1. The spread peaked at $2.05 in September of 1983. At that time, July soybeans peaked at $8.99. They then bottomed on July 11 at $6.49, only to expire at $6.75.

2. November soybeans peaked on June 20, 1984 at $7.71. The low was hit on September 21 at $5.69.

3. The stocks-to-usage ratio in 1984/85 was 18.36%.

Here's some other interesting facts relative to the bull move that we are currently witnessing:

1. Soybeans have actually averaged above $7.00 per bushel at the farm only three times in history prior to this year. The first was in the 1980/81 bull market when the average price was $7.57. The stocks-to-usage ratio that year was 16.98%. In 1983/84 the average price was $7.83. That year the stocks-to-usage ratio was 9.75%. In 1988/89 the average price was $7.42 and the stocks-to-usage ratio was 10.9%.

2. In past years of strong bull spreads in beans, the peak has come relatively early. 1973 was the latest when the market peaked on June 5. In the 1984/85 bull spread, the peak actually occurred in September of 1983. In 1977, the peak occurred in April--which some believe may have just happened this year.

3. The stocks-to-usage ratio is a good indicator of expected average prices, but a poor indicator of what the spreads will do.

For example, in the three years as discussed above, when the July/November bean spread went above $1.80, none of those years had excessively tight supplies. They did have one thoroughly common element however, the new-crop carryover following the year of the bull spread normally showed significant increase in the stocks-to- usage ratio. For example, the stocks-to-usage ratio following the bull market of 1973/74 in 1974/75 was 15.7%. In 1978 the stocks-to- usage was just under 10% and in 1985 the stocks-to-usage ratio was 28.5%.

The Bottom Line

Historically the July/November soybean spread seems to be a stronger indication that a big crop is on its way, rather than a reflection of extremely tight supplies in the old crop. As an indicator on its own without the use of any other analytical tools, the July/November soybean spread indicates almost nothing about whether the market is headed higher or lower.

It does indicate several helpful trends, however. They are:

1. In all of the previous three years the spread has gone above $1.80, the market at some point entered an extremely bear major market before July beans expired. As mentioned, once the peak occurred in 1973, July beans dropped by over $6.00 per bushel. In 1977 they dropped by approximately $2.50 per bushel. In 1984 July beans dropped by $2.25 from their peak.

2. History also shows that the spread itself became even more volatile than actual prices. In 1973, after peaking in June, less than a month later the spread was at $1.60 from its peak of $5.70! In 1977 the spread dropped by nearly $3.00 per bushel. In 1984 the spread declined by nearly $2.00 per bushel before expiration.

3. The wide spread is a strong indicator that prices will be extremely volatile between now and the end of July.

The Bottom Line:

The current strong bull spread in July soybeans does not indicate at all that this market is headed higher. The fact of the matter is, history would indicate that if the market is close to a top at this point in time, for whatever reason, a major bear move is about to ensue. With soybeans currently trading over the $8 mark and near $7 in the new crop, history would indicate its unlikely this market will be able to sustain these prices. In fact, based upon normal historical stocks-to-usage ratios and other relationships, both old- and new-crop beans are likely trading in the top 20% of their expected price ranges for the year. Consequently, this is a market to be sold--not bought.

Another factor that should be brought to one's attention in this market is the technical pattern that occurred on Thursday. On that day, if you exclude overnight electronic trading, July soybeans established a key reversal down after going into new contract highs. This means that Thursday's high becomes extremely important to both the bulls and the bears. If the bulls are in fact going to push this market higher, July beans need to close above Thursday's high at $8.95 sometime within the next two weeks. If that does not occur, the bears will take control of this market, the key reversal will be a valid top and the bear move will be on its way.

Let's also not forget that even though the fundamentals of old-crop beans are bullish, South America just harvested a record crop and overall world-wide supplies of oilseeds will be greater than total world-wide usage. This is not the same type of market that occurred in wheat and corn during the bull markets of the last two years where world production of both commodities dropped under world consumption.

What To Do?

If July beans can close above $8.95, we would have to admit that the bulls are back in control and jump on the bull bandwagon ourselves. With the current price action and the fact that most of the bullish fundamentals are known, however, we are not at this stage going to jump on the bull bandwagon. Quite the opposite, we still view soybeans as a market that is in the process of making a top and we believe once this crop gets planted, the bears will be in control. Past advice has strict cash marketers at 90% sold on old crop and 20% forwarded contracted on the new. If you're not at those levels, we'd advise catch-up sales. For hedgers, you've been sold out of old-crop beans for many months and 20% forward contracted on the new. We're maintaining a short November futures position on 40% and at an average price of $7.04. A close above Thursday's high at $7.04 will be needed in order to encourage us to exit those positions.

May 2, 1997
Richard A. Brock & Associates, Inc.
2050 W. Good Hope Road,
Milwaukee, Wisconsin

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