I am still extremely bullish the Treasury Bond market but…
My immediate new position focus is:
As noted for the first time several weeks ago, I am strongly recommending the short side of Cocoa.
I had been watching Cocoa for a while, having noticed in recent months the buildup of an enormous RECORD LONG position by speculative traders while the commercials (hedgers) were/are 180 degrees their opposite with equally large RECORD SHORT positions…While there are no absolutes in this business, I have seen this set up lead to major commodity market sell offs, literally, more times than I can count, and therefore am now fairly aggressively buying puts in the May 2014 contract.
The last 4 days have seen a blistering rally into new contract highs, which, by no means changed my bearish opinion…but it did lead me yesterday to do some historical research on, “how Cocoa tops out”, and quite honestly, I was genuinely astounded by what I discovered. Not only was I able to make some accurate (I think) observations as to what sort of action one might expect at a Cocoa top, I also was stunned (really) to see how OFTEN, and how QUICKLY this market has had a tendency to make SUBSTANTIAL downside moves.
That research, and a few other comments regarding Commitments of Traders are presented below…
As stated before, sooner or later, very large Speculative Long Positions are often followed by very large Selloffs, as all those buyers at some point have to become sellers. While Commitments of Traders does NOT give you the exact timing (and believe me, sometimes the wait can be lengthy), I have yet to see a single case in which the Specs did not eventually exit their longs, and as you might guess, the reason to do so, almost invariably is generated by a severely declining market.
Here are 15 examples of bearish moves in Cocoa going back to 2000…
About all you have to do is just flip through the following charts to see why I used the terms “stunned” and “astounded”…You can almost make the statement: This market gets hit for 20+% (and up) on a seemingly routine basis…and it also does it pretty damn fast…Also that the timing is often around this time of year.
EVERY 100 POINT MOVE IS $1000 PER FUTURES CONTRACT – Be sure to note the percent changes, the time of year, how long they hang around the highs (not very long)…and the duration of the moves.
Most of the time, when Cocoa stops going up, it stops DEAD, then and there…Thereafter, within days or a few weeks, it seems the down move is already well underway…so it behooves you to take short positions into strength (like we’ve just seen).
I found sharp sell offs in virtually every year since 2000.
EVERY CONTRACT SHOWN HAD AT LEAST AN 18% SELLOFF…MOST OF THEM DID SO IN UNDER TWO MONTHS.
Obviously, just because I can show you there have been some hefty and fairly rapid selloffs year after year does NOT mean one is coming right now…but all futures trading is EVER about is educated guesses and calculated risks…and per my research, all I can do is go with what appear to be some pretty strong odds…Beyond this, I’d say that if you currently do have the risk capital, and this trade doesn’t get your serious attention, my guess is nothing I would ever recommend is going to interest you.
Here is the current May contract…and ONE option that I think has major potential…
Further random thoughts…
Aside from my ever stated belief the markets are nothing more than a giant mob psychology game, I also see the actual trading of the markets as mostly being an exercise in very simple mathematics.
Psychology Supposition: With SO many specs long this market, sooner or later I think this market HAS to have a break to the downside. And with Cocoa having had a tendency towards sharp out-of-nowhere collapses, I want to own puts here…and continue to own puts if/as the market moves sideways or higher.
I Like The Math: I don’t really see a 500-600 point decline as being an unreasonable expectation, and if it were to happen during the next few months, options like the May 2800 put that today costs 65 ticks ($650 + 60 = $710), really could end up being 400 points ($4000) in the money. Obviously, if Cocoa goes up, or nowhere, that same option can be worth ZERO…At any rate, if one supposes that the stats suggest SOME sort of break is coming, sooner or later, this leads me to believe staying in this position until it does fall apart makes a lot of sense…or that even adding in stages (increasing the leverage) if it isn’t working probably is not a bad idea.
Using the sensible “2 & 1”
When you get down to it, I believe, Something Has Got To Give, one way or the other…This Record Spec Long versus Record Commercial Shorts equation, as well as having record open interest (number of futures contracts), says to me: HAS to be ready for something big…Either it blows up further on the upside, then gets rocked on the downside…Or it just stops dead in its tracks any day now…and falls 150 points almost from one day to the next…Point being, with these HEAVY positions, sideways is NOT what I would expect. This is the perfect set up for using the Both Sides Strategy, or “2 & 1”.
If Cocoa continues to rally, the option position outlined below does give you the potential to recoup 100% of what you originally put on the table…And then reestablish new short positions at higher levels.
One more chart for perspective…
And oh yes, anywhere you turn, if you want to do some digging, you’ll quickly find analysts telling you: “The fundamentals are bullish in Cocoa. World supply won’t be able to meet demand in 2014.”…And if you know my work at all, you know how much I think that sort of information is actually worth.
Give me a call if you are interested…I am pretty much always available and always enjoy hearing all your voices.
Thanks for reading,
The author of this piece currently trades for his own account and has financial interests in the following derivative products mentioned within: Cocoa, Treasury Bonds