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THE ALLENDALE ADVISORY REPORT
Prepared by Allendale, Inc.
Commodity Wrap-Up For November 14, 1997
USDA shocked the markets this week by raising both corn and bean crops. However, these estimates fell right in line with ALDL estimates and set the market up for a wild ride this week. The report confirmed our research that suggests with normal weather in South America, the market is currently over valued. Despite the report, beans challenged contract highs by Tuesday based on rumors of Argentine and China buying of U.S. beans and growing concern that Brazilian weather would prevent planting. This created a great opportunity for clients as we have held all cash bean ownership. Cash markets strengthened as barge shippers filled nearly every barge with either corn or coal, causing the gulf to bump bean bids in order to assure some beans afloat. Beans began selling off Thursday/Friday on news of cash movement and ideas that South American weather was improving. Wednesday and Thursday we recommended to sell all cash beans. As for corn and wheat, commercial selling and adequate supplies pressured futures throughout the week. For the week, December corn closed down 12.0 cents, January beans down 15.5, and December wheat finished 18.0 cents lower.
Allendale Selling
We made a recommendation to sell 30% cash beans and we will sell the balance on a rally or if key support is taken out. The reason for this dramatic move is simply business. Prices are at contract highs, no carry in the market, and cash basis levels have rallied to premium values. Futures are currently trading against 750, the same levels hit this summer when we had a shortage of U.S. beans, record low world stocks and a very emotional 3-week U.S. drought. Today we are at the same price, but we have a record crop and double the U.S. stocks, world stocks have increased from a record tight 12.5 mmt to 18.5 mmt (a record year-to-year increase), and the only weather problem we have right now is a 2% planting delay in Brazil. We also have a USDA report that is not going to change until January and it suggests the value of beans is 640, not 740. So, we will sell beans here. Why sell cash and not futures or buy puts? Because there is no carry in the market and why store cash inventory it the market isn't paying you? But if El Nino kicks in, you want ownership! We agree! So we worked out this comparison between holding cash and buying May 750 bean calls and selling May 850 bean calls for a cost of 20 cents plus a $200 commission and slippage factor:
If mkt +100/bu in 4 mo:
cash inventory = $5000 gain — $1200 stg, % = $3800 net
option call srpd = $5000 gain — 1200 prem + com = $3800 net
If mkt —100/bu in 4 mo:
Cash inventory = $5000 loss + 1200 stg,% = $6200 loss
option call sprd = less than a $1200 loss because the option will still be worth something at the end of 4 months. Plus we have not accounted for the interest you will earn (or interest cost you will save) by having the cash rather than having beans.
If mkt is sideways: Storing = $1200 loss, options will be less than $1200.
So you can see that selling cash beans and buying a call spread for 20 cents is much more economical. If you think beans can rally more than 100, you should have plenty of time to buy futures or more calls as the market confirms strength. If you do not think there is a downside risk, then you either have the corner on El Nino or should take another look at the world acreage policy as well as the U.S. farm bill. All analysis we have seen suggests bigger inventory in the future. Therefore, options are “economical relative to cash beans and market wise relative to risk!”
November 14, 1997Bill Biedermann
Allendale, Inc.
4506 Prime Parkway, McHenry, Illinois
Consensus National Futures and Financial On Line Index
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