- historically frothy bullish sentiment not seen since that that warned of and accompanied 2012’s all-time high and massive peak/reversal
- waning upside momentum
- a potentially complete 5-wave Elliott sequence in the May contract and
- the market’s exact 61.8% retrace of 2012 – 2020’s 8.49 – 3.09 secular bear market,
it’s not too hard to find threats against the major bull. But the market simply hasn’t confirmed a bearish divergence in momentum of a sufficient SCALE to conclude the bull’s end. Indeed, commensurately larger-degree weakness below at least 25-Jan’s 4.99 larger-degree corrective low and key risk parameter in the May contract remains required to confirm a bearish divergence in momentum of a sufficient scale to break the clear and present and major bull. Until and unless such weakness is proven, and despite the past month’s arguable smaller-degree consolidation, it would be premature for longer-term commercial players and end-users to neutralize bull hedges.
In 10-Feb’s Technical Blog we discussed that day’s bearish divergence in momentum that has at least interrupted the major bull trend, exposing what is first approached as another interim correction within the major bull Commensurately larger-degree weakness below 25-Jan’s 4.99 larger-degree corrective low and key risk parameter remains required to break the major bull trend, confirm a complete 5-wave sequence up from last Apr’s 3.09 low and expose a correction or reversal lower that could be major in scope. In lieu of sch sub-4.99 weakness, traders need to be flexible to either directional outcome.
END-USERS BULL-HEDGE STRATEGY: APR 5.40 – 5.60 CALL BACKSPREAD
Only a glance at the daily chart above of the May contract is needed to see that the bull trend has at least been interrupted. Along with historically frothy bullish sentiment not seen since 2012, it’s not hard at all to envision a more protracted peak/reversal-threat environment. We just need larger-degree weakness below 4.99 to confirm such. Until such weakness is proven, it would be premature for longer-term commercial players and end-users to pare or neutralize protection against further gains.
Against this backdrop of either a resumption of the secular bull OR a broader peak/reversal, we believe the Apr 5.40 – 5.60 Call Backspread is a favorable risk/reward hedge strategy to deploy. This strategy involves selling 1-unit of the Apr 5.40 calls around 16-cents and buying 2-units of the Apr 5.60 calls around 8-cents for a net cost of “even” (zero) for the spread.
As the P&L graph below shows, this strategy is betting on a MOVE AWAY FROM current 5.50-area prices where the risk/cost of the hedge is fixed, but its greatest. Protection against a resumption of the major bull trend is clear, with unlimited, dollar-for-dollar upside protection above its 5.80 breakeven point at expiration. On a sharp reversal lower however below 5.40, there is virtually no risk at all. This hedge strategy’s maximum risk/cost comes with a daily settlement of the May contract at 5.60 on 26-Mar’s expiration in 18 days.
PRODUCER BEAR HEDGE STRATEGY: APR SHORT-DATED 4.60 / DEC 3.60 PUT DIAGONAL
For producers increasingly concerned about new crop corn, the trend in Dec prices is up on all scales. A confirmed bearish divergence in momentum below at least 02-Mar’s 4.66 smaller-degree corrective low and short-term risk parameter is MINIMALLY required to even defer, let alone threaten this bull. Per such, we feel it remains premature to worry about lower prices. For those who might just want to protect against a bearish surprise from tomorrow’s report however, we believe one of the best risk/reward ways to, in effect, buck the trend and try to pick a top is via a long-gamma put diagonal spread. And with the CME Group’s fantastic short-dated options providing a massive gamma ratio between the Apr short-dated options on the dec contract and the actual Dec options, the risk/reward benefits are clear.
This strategy involves buying the Apr Short-Dated 4.60 Puts for around 3-1/2-cents and selling the dec 3.60 Puts around 3-cents for a net cost of about 1/2-cent and provides:
- a current net delta of -8%
- a massive gamma ratio of about 7:1
- negligible risk if the underlying major bull continues
- profit potential of 1.00 IF the market fails sharply below roughly 4.50 and maintains that reversal lower.
Of course, this major gamma advantage for the Apr short-dated options stems from the fact that they expire in 18 days on 26-Mar. If the market doesn’t reverse below 4.60 over the next couple weeks, the long 4.60 puts will expire worthless, leaving a naked short position in the Dec 3.60 put, a position that then exposes theoretically massive risk. And we never take these spreads to that extent. If the market does not reverse below at least 4.60 over the next couple weeks, this entire spread should be covered for what should be a small losses.
Please contact your RJO representative for updated bid/offer quotes on these strategies.