SPREADS TRADING
Prepared by Ira Epstein & Company
ORANGE JUICE SPREADS
With the onset of colder weather in Florida, the orange juice market seems to be showing signs of improvement. Several key elements should be considered before participating in this market. First and foremost is price, if the January orange juice contract fails to hold the 78-cent level, liquidation is recommended. Secondly, close attention must be given to the USDA's report due out on Thursday, December 11. I do not expect any major surprises in terms of supplies, which are quite abundant at this time. Another consideration is Florida's weather. Ironically cool temperatures are good for the orange crop, however several days of temperature below 27 degrees could be detrimental.
The spread (difference in price) between the January and the May contracts is currently trading at 645 points. I am recommending buying January orange juice and selling May orange juice at the market, using a stop of 150 points. If the 78-cent price level is violated, liquidation is recommended.
CORN/WHEAT SPREAD
Much attention is given to the price of corn and it's relationship to the price of wheat. The corn market has just gone through harvest from which the added supply, in my opinion, created selling pressure on the March contract which reached a season low of about 364¼ in October. With this seasonality in mind, I believe that purchasing corn and selling wheat is an excellent spread trade with a risk factor of about 10 cents ($500) and a margin requirement of $1053. At current prices (July wheat at 374¼ minus March corn at 284) this spread closed at 90¼ cents premium to the July wheat.
LIVE CATTLE
With the cash market at 67 cents and the December live cattle near that level, an issue to address is whether packer demand will be strong. If it is, I believe consistent consumer demand will create higher prices. Even though cattle prices have been declining, the Bull Spreads have been working (the nearby months have gained on the deferred months). I believe that this scenario will continue for the near term.
I continue to recommend the spread of long February versus short April cattle at the market, using a 150-point stop. Current initial margin required is about $375.
THE TED SPREAD STRATEGY
At the slightest hint of concern about the equities markets, cliches like “flight to quality” begin rumbling throughout the investment community. I believe the best way to take advantage of such tumultuous conditions is the TED (long T-bill; short Eurodollar) spread.
The TED involves buying U.S. Treasury bills and selling Eurodollars. The TED spread is a spread position of 90-day interest rate instruments, T-bills guaranteed by the U.S. Treasury, versus Eurodollars that are not guaranteed. This is considered to be a quality spread. When quality concerns increase, regardless of the cause or justification, conservative investors shift funds to investments perceived as being safer. Therefore, the T-bills should always carry a premium over the Eurodollars. Margins on this particular spread are $225. I recommend entry at current market levels, and suggest using a stop of 12 points ($300) or greater.
December 11, 1997 Paul Kocelko
Ira Epstein & Company
223 West Jackson, 7th Floor, Chicago, Illinois
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