In the last article, I revealed how I have taken the stretched situation on soybean market through the bull spread July-August 2019 (ZSN19-ZSQ19). Today, I will focus on this type of strategy and explain my approach in regard to this opportunity.
Why interdelivery spreads?
Interdelivery spreads are very popular. They often keep up the trader even in the moment when he does not get into the trade precisely. I am sure that many experienced traders will confirm that it is impossible to reaching the exact point of market turnover in the long run perspective. Therefore, it is wise to choose strategies that give us more room for mistakes. Interdelivery spreads are just one of these options.
The bull spread ZSN19-ZSQ19
The soybean situation is a typical example. Catching a falling knife at such a sharp sale-off is very dangerous. Definitely, I would not dare to open a straight futures position. The bull spread holded me despite the fact that the price of soybean continued to decline (the violet curve belongs to the July contract and the blue/red curve belongs to the spread).
Of course, this is not always the case. Spread could also continue to decline. It depends on the nature of the spread, whether it is a bull spread or bear spread, what part of the year we are in, etc. Proper risk management is therefore still important.
But with this spread, I did not worry about the sharp decline. Why? First of all, it is a more distant spread, which is usually less sensitive to current price movements. The second important thing is that it is a spread within one harvest. In this case, the movements on both legs are often very similar and the resulting volatility is therefore lower.
The bull spread ZSN19-ZSX19
Let’s look at a similar spread, whose second leg belongs to the next harvest. That means the July-November 2019 spread (ZSN19-ZSX19). Note that the spread continued to fall sharply together with the price. The reason is logical. Both legs of the spread declined strongly, but the farther leg dropped much less. The November contract is part of the new harvest, which is not “troubled” by the market situation so much. At the same time, it is a further evidence that interdelivery spreads better reflect the true state of the physical market.
With my spread, the prices of both legs were very similar. Spread even stopped in its fall. I did not get to a loss, but also its development told me that the market situation is calming down.
This bull spread has another advantage – the proximity to the full carry level. This level limits its decline. On the chart, the full carry is currently around -10 cents. Considering that in the classical market the spread does not reach full carry, I do not expect a fall below -6 cents. At entry around zero, I have a clearly defined maximum risk about $ 300 for a spread.
Now, let’s look at another analysis – storage cost. Specifically, I mean the reversed share of the spread and the full carry expressed as a percentage. At first glance we find that the spread is cheap – blue curve (current year) is at lowest level compared to previous years in this period. In addition, you may notice that spread can make really wonderful moves upwards. The expected RRR is therefore very tempting. The risk is clearly limited and at the same time much smaller than the growth potential. This is a huge advantage of bull spreads on grain.
What to look after with the bull spreads?
Each coin has two sides. With the bull spreads the second negative side is a very low success rate! It’s rather a lottery. Mostly the bull spreads fail. You can also verify this fact on the full carry chart, where the most curves are found at the bottom of the graph. It is not unusual for the spreads to move sideways, or to gradually decline. For this reason, it is also unsuitable to manage this type of spread with season averages.
So, there is nothing ideal on the stock exchange. Everything costs something. Bull spreads offer us a very attractive low risk with high growth potential, on the other hand it is necessary to expect lower success. I’m also counting on the fact that my trade does not have to end in profit. That’s why I chose a closer and more distant spread within one harvest. It gives enough time to my speculation for the rise of soybean prices.
This article is not an investment recommendation! Take all the information as my subjective point of view on the markets.