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Mixed Messages in July USDA Crop Report

Today's Idea Wednesday, July 13, 2011

Among the three major grain contracts, Corn futures appear to have the best upside potential, especially after the recent sell-off in prices spurred renewed buying out of China. In addition, there are still doubts as to the accuracy of the USDA Corn acreage estimate, with many traders believing the USDA overstated the amount of Corn that was planted. Given the potential volatility in the grain markets as the growing season progresses, some traders may wish to explore option strategies to play-out their bullish or bearish biases. For example, those traders who are bullish on Corn may wish to explore buying a bull call spread in new-crop December Corn options. With the December contract trading at 642.00 as of this writing, the December 700 calls could be bought and the December 800 calls sold for about 19 ½ cents, or $975 per spread, not including commissions. The premium paid would be the maximum risk on the trade which has a potential profit of $5,000 minus the premium paid which would be realized if December Corn is trading above 800.00 at option expiration in November. More aggressive trades may wish to sell an out-of-the-money put as well, to help offset the cost of the bull call spread.

Fundamentals

There was something for both bulls and bears in the July USDA Crop Production and Supply/Demand report released on Tuesday morning. For Corn, the USDA raised old crop ending stocks to 868 million bushels, which is up from the June forecast, but nearly 50 million bushels below the average pre-report estimate. New- crop ending stocks were also raised to 870 million bushels, vs. 695 million bushels in the June report. The USDA did raise its estimate for Ethanol usage by 100 million bushels, as well as its estimate for US exports to 1.9 billion bushels, mostly on the assumption that Chinese Corn exports will increase. Average Corn yields were left unchanged at 158.7 bushels per acre, but some analysts believe this average yield estimate may be too high given the hot dry weather forecasts for the Midwest -- especially in areas where the crop is in the pollination phase. The Soybean figures were generally bearish, as the USDA raised its old-crop ending stocks estimate by 20 million bushels from June's report, and it lowered its estimate for US exports by a similar 20 million bushels. New-crop ending stocks were lowered to 175 million bushels, but were still above analysts' estimates. Global Soybean carryout was bearish, rising to 65.8 million tons, as large crops out of Brazil and Argentina aided the global supplies. However, bulls will point to the lower estimate for the US 2011-12 crop, which the USDA estimated at 3.85 billion bushels, which is down 60 million bushels from the June report. Many traders were definitely shaking their heads at the data on Wheat, as the USDA raised their estimate for all Wheat production to 2.106 billion bushels, vs. 2.058 billion bushels in the June report. More surprising was the increase in estimated US Wheat exports by 100 million bushels, as most traders expected US exports to decline now that both Ukraine and Russia are back in the export market. The USDA estimated US Spring Wheat production at 550.7 million bushels.

Technical Notes

Looking at the daily chart for December Corn, we cannot help but notice the "spike" bottom formed on July 1st, the day following the USDA planted acreage report, which sent Corn futures "down-the-limit". Since the lows were made just above the 575.00 area, December Corn has rallied nearly 70 cents per bushel. Prices are now attempting to close above the 20-day moving average, which if successful may trigger additional short-term momentum buying. Prices are also testing the downtrend line drawn from the contract high made back on June 9th. The 14-day RSI is turning up and moving into neutral territory, with a current reading of 49.25. The only negative technical sign is that trading volume has been light on the recent price recovery. Support for December Corn is seen at the "spike" low of 575.50, with the next resistance area found at the June 29th high of 671.75.

Mike Zarembski, Senior Commodity Analyst