COMMODITY FUTURES FORECAST WEEKLY REPORT
Interest Rates
Philip Gotthelf
(February 10, 2005) Another surprise came with the reaction to this month's unemployment. So instead of being up more than 200,000 jobs, the seasonally adjusted figure was only 150,000. With that, notes and bonds jumped to test the high end of the current trading range.
There are some chartists who claim this week's upward thrust represents a breakout from a long 4-1/2-month consolidation wedge. The eventual outcome should be a new high above the October top around 113'15. The talk is that the Fed won't raise short-term rates at their next meeting because the economy has slowed down.
If you ask me, 150,000 new jobs in January isn't an indication of a slowdown. It appears obvious that new hiring is on track and commodity prices have not abated to the extent that inflation is not in the hearts and minds of Fed governors. I believe the measured increases in short-term rates are inevitable. In the meantime, homeowners have an extended opportunity to borrow at low rates, business can expand at low rates, and the overall interest rate environment holds steady at the low end of the spectrum.
Technically, I suspect the October high will hold as resistance. Unfortunately, we were stopped out of our short March 5-year notes with a loss and our March T-notes were taken out at a breakeven. However, we continue to hold the short March T-note 113 calls and 111 puts with the calls near the money. My temptation is to cover the 111 puts as we move toward expiration because they are practically worthless at this point and it is not necessary to carry the exposure. Depending upon the close, I may take out the calls, too, and call it a day.
The June calls may offer the next opportunity if optimism over rates continues. I was listening to some "experts" who claim that the interest rate market is headed much higher (lower rates higher principle) because the Bush initiative on privatizing Social Security is gaining momentum. They postulate that the huge influx of Social Security cash will bid interest rates down and principle values up. Well, that's a bit off into the future. For the moment, I would be concerned about near-term demand for money that may increase as tax day nears.
As evidence, look at today's 10-year auction. If the demand is so great, what happened. If anything, we could have a new selling opportunity in the 10-year and the 30-year. The employment was a prop that may have given out today. Look at the dollar and tell me we are seeing a progressive low interest rate situation. The market is telling us that the cycle is changing.
Although the chart can be interpreted as a breakout above the prior trading range, I see 117'15 as resistance. One day does not make a market, but today's sizable range suggests a test of the breakout above 114'28. If we retrace to 114'20, it will be a strong indication of exhaustion.
The March U.S. Dollar Index displays an opposite logistic. Which is correct? We'll see over the next few trading days. But, we know the dollar can recover even if U.S. rates remain the same or dip a bit. It's relative to the rest of the world's rates and economic progress. We made our objectives in our currency positions and I am content to let them ride. The issue is whether we want to venture into the short side of interest rates at a time when they broke out. If you believe 150,000 new jobs is not bad, you're on the same track.
Japan, Mud And Canada
According to some sources, cattle are upset with their living conditions. It's been cold, wet, and muddy. They simply don't want to eat and it is difficult to get from one end of the range to the other. Short of a hunger strike in protest, animals have decided not to gain weight.
This is a familiar story that percolates every winter as the seasonal tendency for adversity intensifies through mid winter. However, cows, bulls, and steers put up with inclement conditions every year. In order for it to make a difference, there needs to be more than the usual mud, chill, and overall natural winter condition. Thus, any story that suggests cattle prices should move higher because weather is keeping weights lower needs appropriate investigation.
There are several misconceptions that exist as leftovers from former years of livestock production. Most notably, cattle do not "free range" to the extent seen in old western movies. Moreover, the top producing states of 30 years ago are no longer dominant in U.S. cattle output. The muddy states are not necessarily the focus. Hence, a more comprehensive perspective is required when a Wall Street Journal reporter seeks quotes to fill his or her article.
My own investigation is a bit more optimistic about weight gains. Producers I have chatted with tell me all is well and they will be moving animals from April through June. Feed is cheap and getting cheaper and there is little incentive to hold out for higher prices when April live cattle has been trading above 8500.
Why, then, did we see reports of mud-related weight loss as prices took another shot above 8950? The problem is that fundamental information reported by the media has taken a turn for the worse. Commodity coverage has always been sparse, but it has become casually apocryphal as well. Gone are the days when Stan Angrist accurately and consistently reported on commodities for The Wall Street Journal. He was the commodity maven that traders relied upon for his vast contacts and timely, researched coverage. Gone are the likes of Hy J. Maidenberg who wrote the commodity column for The New York Times. Goodbye to Commodity News Service (CNS) and the Reuters Commodity News (RCN).
Today, we get snippet columns with brief mentions of one-day events that take a particular commodity higher or lower. It is ironic that commodities have been relegated to no-class citizens at the very time when main headlines emphasize pending commodity shortages ranging from crude oil to copper, lumber, and steel.
Getting back on track, prices did spike higher when rumors of Japanese participation in young certified beef hit the news. Short of Israel, the United States has the healthiest food supply in the world. Not coincidentally, our food is also the most healthful. The distinction between healthy and healthful has been blurred by the consistent misuse of "healthy" when describing a diet or food product. For the sake of good diction, something that is living and is in good health is "healthy." Thus, a meal cannot be healthy unless it is still squirming on the plate. A cow can be healthy, a steak cannot. However, things that are good for you are "healthful."
Why the English lesson? Basically, Japan embargoed U.S. beef because a few unhealthy cows were unhealthful food. Mad Cow Disease became and remains an issue. The last scare was traced to an animal that came from Canada. The link between the Canadian animal, its age, and the potential proliferation among U.S. herds has culminated in the theory that younger stock within the U.S. is less vulnerable to the disease and, therefore, acceptable.
If Japan partially lifts the ban on U.S. beef, additional demand would be reflected in our futures markets. Hence, prices spiked on the possibility. Like the story about mud, Japan's potential appetite for U.S. steaks needs to be put into perspective. The decision is pending rather than made. Therefore, there is no new Japanese demand and no reason for the possibility to impact February, April, or even June deliveries...at this time.
From a technical standpoint, the pop in April cattle represented a fresh selling opportunity. If you believe the chart displays a tight head & shoulders pattern, the right shoulder was not violated to the upside by this week's action. To the contrary, we may have seen a further confirmation of the eventual reversal that challenges 8650 support.
This is the pattern I discussed when we placed the new short from 8825 looking for an advance of 75 points. Well, the advance came later than expected, but it came nonetheless. Today's precipitous drop suggests that my prior analysis may be correct. I called attention to my premonition that inventory would need to move coming into the April delivery. Although February could remain firm, I viewed April as the pivotal month. Indeed, the chart patterns are distinctively different.
I don't believe producers can hold mature animals much beyond the April delivery and I think we will see sales accelerate into June. At this juncture, 90 cent cattle is expensive. Historically, 80 cent cattle is dear. This is why I have been trying to sell an eventual top.
In addition, Canada looms as a potential supplier. Japan has a ban on us and we have a ban on Canada. The circular prohibitions are all in negotiation. This suggests that Japan's renewed interest in U.S. beef could be offset by Canada's ability to sell to the U.S. market. My assessment of timetables has Canada ahead of Japan with possible relief as soon as March. This would significantly impact the psychology of the April and June deliveries!
Of course, we need a bust below 8650 to be technically comfortable. Thereafter, the first objective measures as low as 8250. That represents a handsome piece of change and still leaves cattlemen with a hefty price for their animals. How low can cattle go? By August, I would not be surprised to see trading in the 70's.
Along other lines, I believe we are overpriced in the pork complex, too. I tried to sell bellies, but the market has become untradable. We were stopped out just before prices took a nosedive. At that time, I should have switched into lean hogs. But, I was content to see if we were correct in our assessment of cattle. Notice how April lean hogs has set up a triple flag pattern similar to a head & shoulders.
The bust would have been nice to pocket, but I believe we still have a selling opportunity. Last week's rally represents a continuation pattern with a downside objective as low as 6927.
Traders are reluctant to sell after a bust, but the general rule is to "sell weakness." You don't sell into strength! Like cattle, a lean hog over 7000 represents a good profit. It's when prices dip below 6000 when producers start to complain. In today's low feed, low interest environment, hogs are fetching a good price that can go as low as 6200 on this chart.
February 11, 2005
Philip Gotthelf
Commodity Futures Forecast
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