Canada Markets                07/04 11:30

    Commodity Index Trader Buying Resumes on Inflation Fears

   Love them or hate them, participants other than those directly involved with 
a commodity use futures markets for various purposes. In the coming months, 
commodity index traders could be the best hope there is for higher grain and 
oilseed prices.

Mitch Miller
DTN Contributing Canadian Grains Analyst

   We are at that very difficult period for grain and oilseed marketers when 
prices are depressed due to generally favorable growing conditions, forecasts 
for more of the same and a strong seasonal tendency for prices to fall. And 
they have been since it appeared as though planting would be completed without 
any major issues in that 'peak optimism' period regarding crop potential and 
'peak pessimism' period for price. But how much has already been priced in? And 
what might catch the overly confident short-position holders off guard? Those 
factors all weigh heavily on anyone trying to monitor or adjust marketing 
strategies.

   With few weather risks on the horizon for row crops, corn in particular, 
supply concerns do not appear to offer much to hang your hat on for price 
optimism. Even though old-crop corn supplies are exceptionally low (especially 
on-farm) and new-crop soybean supplies should be on everyone's radar.

   Demand has been stellar for both domestic and export markets, but the 
bearish traders out there continue to point to record large South American 
crops that are sure to bring that to an end. The problem is, South America is 
developing its own biofuel production facilities at an exceptional pace 
complete with increasing blending mandates, leaving exports only growing at a 
very modest pace -- but that is a topic for another day.

   The most immediate impact on commodity prices in the weeks and months to 
come may be based on demand from commodity index traders (CITs) in the form of 
hedging against inflation.

   CITs often have little lasting impact on prices (so receive little 
attention) but when they matter, they can really matter. The inflation surge to 
start the decade was a perfect example. By late 2019, those with significant 
wealth were increasingly worried about the Federal Reserve's view that early 
inflation indications at the time were merely "transitory". With inflation 
destroying real returns on investments, they began buying commodities as a 
hedge against inflation through CIT funds. Futures markets provide an excellent 
form of leverage and liquidity for such a purpose, attracting their interest. 
As the chart shows, from the fall of 2019 to March of 2022, CITs went from 
812,206 contracts net long ag markets (corn, Chicago and Kansas wheat, 
soybeans, meal and oil, feeder cattle, live cattle and lean hogs) to 1,398,356 
contracts net long. As an example of the moves seen during that period, the 
price of corn went from $3.09 per bushel in the spring of 2020 to $8.24 per 
bushel by April of 2022.

   This time it's not the Federal Reserve that is ignoring the increased risk 
of inflation, but President Donald Trump himself. In fact, as you can see in 
the accompanying chart, CITs sold out of 300,000 net long ag commodity 
contracts from mid-February to mid-June, thanks to the confidence that Chair 
Jerome Powell and the Fed were not only focused on keeping inflation in check 
but maybe too much so, increasing recession risk. That surely contributed to 
the price declines seen in grain markets during that period.

   That all changed in mid-June when Trump ramped up his rhetoric, again trying 
to figure out how to replace Powell with a chairman that would lower rates as 
desired. He has not only increased his public criticism and calls for Powell's 
early resignation, but he has also suggested a successor will be named shortly 
(presumably to try to influence board members). He's even been going as far in 
a recent social media post as to suggest Powell should be investigated for his 
actions.

   The final straw may have come at the end of June when Trump pushed for a 
decrease in interest rates to 1%, not only calling Powell over the matter but 
also sharing a letter he sent to Powell on social media with World Central Bank 
Rates listed and "Should Be Here" highlighted at the 1% level. Such an outcome 
would surely let inflation run unchecked with a renewed risk of a repeat of the 
1970s cycle.

   Regardless of the tipping point, CITs have taken notice and increased their 
net long positions in that group of ag commodities by 43,877 contracts in the 
last two weeks of reporting. Days like July 2 with unexplainably aggressive 
rallies across grain and oilseed markets are a tell-tale sign of such buying.

   Where it may also become a significant factor is the impact on the managed 
money trader group. As a review, managed money traders tend to have the 
greatest impact on price movements. They have one purpose and one purpose only 
-- to profit from speculating in futures and options markets. They don't have a 
bias on price direction, only that the price is moving and that they are on the 
right side of it. They tend to be trend followers and momentum traders. They 
will add to a position aggressively if it is proving to be correct, thus adding 
to the momentum of a trend. That leaves them vulnerable to pushing prices 
beyond levels that they would normally go, either higher or lower.

   If buying by CITs helps to make it clear bottoms are in fact holding and the 
most likely price direction in the future is higher, it may force managed money 
traders to cover their sizable net short positions (in corn and wheat in 
particular). Given their nature, they could easily turn into aggressive buyers 
depending on momentum and the potential for any weather adversity.

   With that, the recommendation from this post is to watch for unusual signs 
of strength in ag markets, of Powell being forced out one way or another 
(and/or a less independent Federal Reserve), and signs of short covering by 
managed money traders. And, most important, be aware of the potential impacts 
of these macro factors on markets and marketing plans.

   **

   I welcome feedback along with any suggestions for future blogs. My daily 
comments can be found in Plains, Prairies Opening Comments and Plains, Prairies 
Quick Takes on DTN products.

   Mitch Miller can be reached at mitchmiller.dtn@gmail.com

   Follow him on social platform X @mgreymiller




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