Wheat market delivers example of a short covering rally

By the time you read this column, wheat could easily be back in its sluggish backwater, but on May 14 it was the star of the crop markets.

Chicago wheat soared seven percent for no significant fundamental reason and held on to most of the gains the following day.

The price action May 14 was the perfect example of a short covering rally.

All the big funds in the wheat market held short positions. Indeed, Chicago wheat was in a record net short position. That is, they were all betting that wheat prices would fall.

That is no big surprise, given that there is an ample supply of wheat in the world.

However, there is always a danger that a contract that is heavily net short and starts to rise a little can spark a mass rush to rebalance positions.

That is what happened with wheat. The price crept up high enough to start triggering some “buy stops,” which are pre-defined price targets where contract holders have positioned automatic buy orders to protect themselves against surprise market moves.

As the buy stops triggered, they added to the rising price momentum. Fund holders watching the market turn against them figured they had profited enough from their short position and bought to lock in the profits. And that too added to momentum.

And before you know it, you had a seven percent gain, the biggest one-day rally since June 2012.

So why did wheat even edge up enough to trigger those buy stops?

After all, just two days before, on May 12, the U.S. Department of Agriculture released its first forecast for 2015-16 supply and demand.

The department projected that U.S. wheat ending stocks would rise to 793 million bushels in 2015-16, up 84 million bu. from 2014-15 and a five-year high if realized.

The trade, on average, had expected 750 million.

The USDA forecast that world stocks would climb to 203.3 million tonnes, up 2.4 million from 2014-15 and almost 10 million tonnes more than the average trade forecast.

The rapid planting pace of the spring wheat crop in Canada and the northern United States also weighed on wheat.

However, against that negative news were a couple of weather issues providing some support.

It had been raining a lot in Oklahoma and Texas and more rain was on the way, raising the potential for damage to quality and protein in the U.S. hard red winter wheat crop.

Also, the Australian, Japanese and American weather offices have all now said the Pacific Ocean has moved into an El Nino phase that looks like it will intensify over the summer.

If it develops as expected, it could lead to dry conditions in eastern Australia, which would stress wheat crops there. There is the potential for it to also reduce rainfall in India’s monsoon.

On the other hand, El Ninos sometimes bring cooler weather to the U.S. Midwest, reducing heat stress on corn and soybeans, and leading to higher yields in America.

Western Europe is enjoying ideal growing weather, but a pool of warm Atlantic Ocean water could lead to a ridge over parts of Russia, which prevents rain. One private forecaster, WxRisk.com, suggests it could get drier than normal in Russia’s Volga River region, a big wheat producer, later this spring.

The level of confidence in the long-range forecast is limited, but none of these weather issues are urgent for now and do not support a big wheat price rally today.

Last week’s rally likely has no legs and provided only a short term but welcome opportunity for farmers to top up sales.

Contact darce.mcmillan@producer.com

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