Is this a blow-off top and selling opportunities of a lifetime or are these markets ready to climb to even higher price levels? Only time will tell us for sure, but one thing we can be certain of — these are grain markets like we have never witnessed in the past.
Looking at the supply and demand fundamentals for the corn, soybean, wheat and cotton markets using traditional analytical techniques, my answer would be that this most likely is the selling opportunity of a lifetime.
However, one key factor makes the current market environment different. That's the influence of the very well-funded index funds, which trade only from the long side and are sold as a hedge against inflation.
This makes farm markets more of a money game. Who has the cash and what do they want to do with it. For now, the supply and demand fundamentals have a lessened impact on prices.
Here's an example of what I'm talking about. As I write this in early February, the index funds hold long positions in corn futures that total nearly 2 billion bushels. That's more bushels than the expected carryover of 1.4 billion bushels.
Their long position in soybeans is just under a billion bushels, compared to an expected carryover of only 175 million bushels!
Their long position in Chicago wheat is approximately 1 billion bushels, which represents about 270 percent of the entire soft red winter wheat market!
The index funds are long approximately 100,000 contracts or 10 million bales in cotton — more than 50 percent of 2007 production and above the expected carryover of 8 million bales.
If not for the influence of the index funds, the fundamentals for these four commodities do not justify current high price levels. Even with ethanol and rising world food consumption thrown in the mix, supplies are large enough that under ordinary circumstances corn would not be expected to average $5, soybeans $13, wheat $10 and cotton 77 cents.
The Commodity Futures Trading Commission (CFTC) is getting pressured by several groups that buy commodities to change the regulations governing index funds so that they would have limits on the size of their positions. Government agencies are slow to move, but the pressure is mounting.
The other potential change that could impact the index funds is a sharp drop in crude oil prices. Energy futures make up a large portion of the commodity mix of these funds.
For example, the Goldman Sachs Index Fund has 74 percent of its approximate $103 billion in assets invested in energy markets. $75 billion dollars will buy a lot of crude oil, heating oil and gasoline.
If crude oil prices head lower, to maintain their portfolio mix, these funds will be forced to liquidate long positions in grain futures and other commodity markets — unless even more investment money flows in. Therefore, one of the keys to price direction in farm markets the next few months will be the direction of the crude oil market.
As I write this, the crude oil market appears to have established a major top.
It is always important to make selling decisions based on the potential for prices to move higher versus the risk of prices moving lower. There is currently far more risk to the downside than upside potential.
Input costs for producers have risen sharply. It is important to take some of the risk out of farming and take advantage of current high prices.