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Looking over the Players Sheets from the grain room at the CBOT I noted an
interesting trade in the Sep and March Corn Options today. It was accredited
to ED&F Man, which is the firm my firm clears through, though I have no idea
who's trade this was.
Anyway, someone bought 1400 of the Sep 3.00 calls and 2.10 puts, and sold 1400
of the Sep corn 2.60 puts and 1400 of the March 2000 2.80 calls. For this
four-legged spread they received a 37.5 cent credit.
It appears the spread closed at about 38 5/8. The trader who bought this
spread is effectively long the Sep corn versus short the March, via the short
2.80 calls. However, they have protection to the downside at 2.10, should the
Sep fall apart. And, they have protection against a big rally by owning the
Sep 3.00 calls.
Initially, the trader is long .55 deltas on the Sep positions and short .29
deltas on the March Positions. That works out to be the equivalent of 770
contracts long in the Sep versus 406 contracts short in the March.
One could assume that should the 3.00 calls come into play that the Sep-March
spread will have tightened up from a carry of 16 cents, which will be
profitable for the trade. Since this trade will play out in the old crop (Sep
options expire in August), the potential impetus for a sharp rally will have
to come from the demand side, since we know what the supply side is.
However, an astute CBOT member friend of mine pointed out some potential
hazards to this trade. First off, the corn loan program will start to end
come Aug. 1. If prices are low, the farmers are likely to just hand over the
grain to the government rather than pay the loans back. After all, in another
couple of months they will need to make room for the new crop harvest. And
the government is supposed to just turn right around and sell the grain on the
open market. There is no grain reserve to lock up supplies for years, or
until prices recover.
This corn will quickly find its way into commercial hands. It is unlikely
that farmers are going to want the corn, when again they will have new crop to
store in a couple of months or less. This movement of the cash grain to
commercial hands from the farmers via the government is likely to decimate the
corn basis in August and September.
It is my guess that this is a longer term trade, most likely exited some time
in June or early July. The September positions by themselves would be called
a fence, short a vertical put spread to get long with defined risk. Long the
3.00 calls to offer upside protection. The March call seems like an odd add
on to help punch up the initial cash credit. Volatility is relatively low
because of the narrow ranges and low prices. In fact, a corn option pit
broker told me the March volatility on the 280 calls was 3% lower than similar
delta December calls. That might be the weak link in the trade.
Should low prices spur consumption this summer, and should production be
reduced by lower corn acres because of an advantage to soybeans given the cost
of inputs and a better government program, any weather scare could make those
March calls soar. This is especially true relative to the Sep because of the
plentiful supplies supposed to become available.
Now, if the government were to come in with some surprise giveaways, reserve
program or such, then it could be a different story. Only time will tell.
Regards,
John J. Lothian
Disclosure: Futures trading involves financial risk, lots of it!
Disclosure: John J. Lothian is the President of the Electronic Trading
Division of The Price Futures Group, Inc., an Introducing Broker.
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