How do you lose 11% of your corn stocks?

Corn just got cheap. Well, at least relatively speaking. After months of prices edging higher on increasingly dismal stock and planting reports, investors got quite a shock today when a monthly report indicated that corn stocks were 11% larger than expected, and corn sowing was 2% above what analysts had predicted. All of a sudden, the fear of no supply pushing prices higher evaporated, and corn tanked quickly, falling -10.89% (the second largest corn move in history from what we can tell).

But corn wasn’t the only grain in freefall. Wheat also took a dive after planting reports came in over 2% above predictions, and stockpiles were found to be over 4% larger than expected.

So, is this just fuzzy math used to taunt investors? How do you randomly forget about over a tenth of the corn stockpiles in the country? U.S. Agriculture Secretary Tom Vilsack had a different take on the situation.

“American producers stepped up,” he quipped.

But did they? It turns out that the data released today in the plantings report was collected as part of a survey in the first two weeks of June that asked farmers what they believed they would plant. In other words, they asked farmers, when corn was hitting all-time highs and before the plains got pounded by flooding, what they intended to plant. When this information came out later in the day, the USDA quickly turned around and said they would be repeating the planting survey in July, perhaps causing the small bounce back at the end of the day in prices.

Actually, you should probably get used to the idea of these numbers being pretty bad. If you read the fine print at the bottom of the reports, you’ll find that that large change in wheat stocks actually falls within the reports margin of error, and that farmers have up to 5 years to change their answers on the surveys. Yes, this mash-up of crystal ball-derived statistical predictions is the report that caused a 10% price drop.

Whether it’s increased planting gusto or USDA miscalculations isn’t really all that interesting to us, as we’re more interested in who does and does not have exposure to the move in the managed futures world. Some longer term programs we monitor, such as Covenant Capital and DMH,  are maintaining their long positions in grains, but a few are taking advantage of the downturn, like Clarke Capital (including Worldwide, whose current drawdown presents an excellent opportunity for some investors), APA Strategic Diversification and Lenapi Advisors. Interested in learning more about these programs? Click on the links above to view their performance.

Officiating Today’s Game – the NFA and CFTC

You may, on occasion, hear us refer to the NFA or  CFTC in our writing, but aside from a jumble of letters, what are these organizations and what do they do? The answer is simple: they work to ensure legal and ethical standards are upheld across the industry.

In 1974, Congress passed the Commodity Futures Trading Commission Act of 1974, which President Ford signed into law. It had become clear, as trading increased in frequency, that there was a need for legal oversight. The passing of the bill overhauled the Commodity Exchange Act and created the Commodity Futures Trading Commission (CFTC or Commission), an independent agency with far more authority over futures trading than its predecessor, the Commodity Exchange Authority.

The bill also allowed for the development of a self-regulatory body for the industry that would complement the actions of the CFTC. In 1976, a group of industry participants, lead by the then Chairman of the CME Leo Melamed, formed the National Futures Association Organizing Committee. The goal was to reflect a large cross section of business and regional interests, because without full cooperation across the industry, the efforts would not be a success.

The process was a slow one, but in 1982, Robert K. Wilmouth, former president of the Chicago Board of Trade, became the NFA’s first president. The rest, as they say, is history. The NFA became a self-regulating body operating under the authority of the CFTC.

What are the differences? The answer, it turns out, was not exactly easy to track down. Red tape, hesitance to provide direct answers and the complicated legal system being navigated provided a great deal of fog and confusion in our research. After calling representatives from both bodies and a lawyer specializing in futures investing, as well as doing additional research, the short version is this: the CFTC writes the rules and enforces them for non-NFA members, and the NFA enforces the rules for its members unless the infraction is a large one.

Essentially, the NFA has a long list of compliance rules which members must abide by. Included in these rules are all of the CFTC regulations, while others are derived from the industry in order to uphold the highest levels of integrity among members. As the NFA website explains, “With certain exceptions, all persons and organizations that intend to do business as futures professionals must register under the Commodity Exchange Act.” The NFA will then conduct audits of its members and generally monitor their behavior. If they find something out of line, they will issue a reprimand that can range from a letter of warning to expulsion from the organization and hundreds of thousands of dollars in fines.

When does the CFTC step up to the plate? Legally, they could theoretically get involved in any case alleging an infraction of their regulations, but in practice, they usually only get involved in the punitive process if the offender is not an NFA member (meaning the NFA has no jurisdiction), or if the violation was severe. While it is theoretically possible that someone could be punished by the CFTC and NFA, it doesn’t often happen that way.

Why are these bodies important? To protect investors. The goal of these bodies is to ensure that investors are being given accurate, balanced information about their options, and not being defrauded. The NFA, in particular, provides a useful tool to investors (click here), whereby you can enter the name of the broker, firm, or CTA you are dealing with/thinking of investing with; and find out if they are indeed registered, how long they have been registered, where they have been in the past, and any complaints or infractions they have suffered.

We urge you to learn more about these regulatory agencies, especially because their websites provide a wealth of information regarding managed futures, markets and investing. You can find them here:

Commodity Futures Trading Commission (CFTC) Website

National Futures Association (NFA) Website

Contango, Backwardation and Relative Value in Brent and WTI Crude Oil

After hearing a manager last week talk about their trade of shorting the negative roll yield WTI Crude futures (West Texas Intermediate grade Crude Oil – aka Crude Oil as we know it here in the US) and going long the less negative to positive roll yield Brent Crude futures,  our curiosity got the better of us and we mapped out what the long Brent/Short WTI trade has looked liked over the past 5 years, plotting the single contract rolling gain/loss assuming going shot 1 WTI Crude and long 1 Brent Crude contract.

The chart makes it quite clear why they have been interested in this trade of late – although the contrarian in us doesn’t think it looks too appealing to be getting involved right now.

Why has it been working so well?  Just take a look at the curves of the Brent Crude market versus the WTI Crude market below. You can clearly see that the WTI is in contango (further out months more expensive than the nearer months/spot price), and the Brent is in backwardation (the opposite of contango, where further out months are less expensive than the nearer month prices/spot price).

That means that rolling over long WTI crude futures month to month causes you to pay a premium to go further out (and receive a premium if short), while rolling over long Brent futures results in receiving a premium.  Traders love to find anomalies, and this qualifies, as the two products are essentially the same, yet you get paid to hold one, and do the paying to hold the other. Why not own the one you get paid to hold, and sell the one you have to pay to own – creating a situation where you get paid to hold both while minimizing the price risk.

Now, this is a simplistic view of what is going on here, and there are many risks involved, chief of which is that the movement in price can more than offset the roll yield, but you get the point.

What’s the difference, anyway? Crude  oil is crude oil, right? Aside from the obvious geographic spread (Brent Crude comes from the Brent Sea area, WTI comes from the Texas area) and the locations where the contracts are traded (Brent is traded on ICE and settles in London, WTI is traded on the CME with settlement in Oklahoma), WTI is considered a “lighter” and “sweeter” oil (don’t ask us why they call it sweet- we don’t want to know who tasted it), which results in a more easily refined product and up until now, a more expensive product.

Over the years, WTI has become a proxy for supply/demand in the Americas – as all things being equal, Oil consumers in the Americas will choose to get their oil from the closest source (in America), while Brent has become a proxy for supply/demand in the rest of the world (especially Europe). With the problems in Egypt, Libya, and Opec – the supply picture for Brent has been muddled of late, while there has been a supply glut in Cushing, Oklahoma where the WTI futures are settled, resulting in Brent not only being in backwardation, but also trading at a premium to WTI Crude.

Managed Futures Spotlight: Quantum Leap Capital

This week’s managed futures spotlight belongs to none other than Quantum Leap Capital. It is not often you meet a CTA from Mexico- never mind a CTA that also built a world class visual effects studio (also in Mexico) that won an Oscar for its work on the movie The Curious Case of Benjamin Button. Today, we introduce you to Quantum Leap Capital, a short term managed futures program founded by Mr. Alejandro Diego of Chapultepec, Mexico – who is the only CTA we know of that hails from Mexico.

Who is the Manager?

Mr. Diego has taken the path less traveled in his journey to becoming a commodity trading advisor. Armed with a degree in Electrical Engineering from Rice University in Houston, Mr. Diego traveled to Stuggart, Germany to work for Daimler-Benz as an intern in their research and development division.  Alejandro’s mother is of German descent and he had a keen interest in visiting her homeland after school. During his time at Daimler, Mr. Diego had his first exposure to computer graphics systems that were used to aid in engine and car design, as well as water-cooled supercomputers to process all the design specifications.

That’s really only the tip of the iceberg. Click here to read the whole piece: http://bit.ly/jh5uTM


Weekend Reads

This week was tumultuous, to say the least. Greece teetered further toward the edge while stocks took a nosedive, only to bounce back for a less dramatic weekly loss. In the world of managed futures, the MFA conference gave us quite a lot to think about, and included great conversation with both new and old friends. We’re looking forward to the weekend, but until we meet again, here are some excellent reads:

  • Is the Fed the World’s Larged Fixed Income Hedge Fund? (Ritholtz)
  • Refreshing Summer Coca-Cola reflective of inflation (ZeroHedge)
  • A 100% Error Free Index is Impossible (Kid Dynamite)
Just for Fun…
  • Super Strange Species Names (TG Daily)

MFA Conference Reflections

Another MFA conference has come and gone, and we can’t help but feel as though this time around was decidedly different from the MFAs of yesteryear. The feel of the event was unique, but not really quantifiable. What were the takeaways?

  1. The emergence of new traders from Wall Street proprietary desks. We’ve found a surge in CTAs coming out of the woodwork from Goldman, Citi, Citadel and others as the big boys shift around their investments to dodge regulatory bullets. Time will tell if these types of “quant” traders will make a sizable impact on the industry.
  2. A decrease in capital introduction meetings. This conference seemed to be less about introducing investors to traders, and more about CTAs telling the industry about themselves. Why? Really, it’s anyone’s guess, but we believe it has a lot to do with other brokers going the fund route.
  3. The emphasis on communication. There seems to be resounding agreement among the industry people we spoke with- we all need to work on communicating what managed futures is, how it works, and why it may be worth it to some to the public at large.
  4. The field is full of opportunities. Whether discussing product development, investor interest, or new research pieces, everyone is excited about what’s around the corner in managed futures.
  5. Florida’s MFA should be excellent, as well. We know that we’ll be eager to escape the frigid Chicago winter and head south for some sun and shop talk.

Thank you again to all of the managers who took time to speak with us. We look forward to what’s coming next!

MFA Update: Meetings with Campbell & Company and EMC

We were pleased to wrap up the MFA conference with two meetings with some great CTAs. Last night, Jeff Eizenberg had the chance to sit down with Andy Schneider (VP Institutional Marketing) and Jon Caplis (Research Manager) from Campbell & Company. With close to 150 employees, $3 billion in assets under management, and a research team stacked with more mathematicians, scientists, economists, engineers and advanced degrees than you can shake a stick at, they, in our opinion, have a first-class operation underway. Their managed futures and trend following strategies were established in 1972! That’s one heck of a track record.

We also got to meet with Brian Proctor of EMC, and we’ve got to say, their back story is about as cool as they come. Brian used to run Richard Dennis’ trading operation, and Liz Cheval was one of the original turtles, so the whole firm is run by some of the most experienced people in the business. Interestingly, Liz is a majority owner in the firm, which classifies the firm as “minority-owned”- opening up all kinds of unique opportunities for them. Another issue brought up in the meeting that struck a cord with us was their willingness to embrace volatility. For example, in 2008, when oil was fluctuating between $100 and $145, many were backing out of the game. EMC, on the other hand, jumped in the game by getting short at $125 and rode it down to make $50  on the trade (past performance is not necessarily indicative of future results).

As our meetings come to a close, we’ve got to say, this was a decidedly different MFA. We’ll post our reflections on the conference as a whole later today.