Old Crop/New Crop Spread: An Intracommodity Spread

The old crop/new crop spread is one of the most well-known spread trades around. It takes advantage of the difference between the diminishing crop that has been sitting in storage all year long and the upcoming new harvest projection. This old crop/new crop spread affects all of the grains to some degree or another, as well as any product that must be planted and harvested. The most common old crop/new crop commodities are soybeans, corn, and wheat. These are all grains that can be kept in storage for long periods. As the year progresses, supplies crisscross the world fulfilling cereal, material, and feed needs. This dwindling of “old” supplies intersects with the New Year’s harvest, creating spread trading opportunities.

A surplus of grains leading into the New Year can depress the price of both the current stocks and the upcoming harvests.

A dwindling supply of grains drives the prices up on the current grain stores and increases the value of the new harvest grains. Throughout the year the USDA releases reports on crop plantings and storage levels. The information that they release directly affects how the old crop/new crop spread is bought and sold.

One of the most popular grain spread trades is the old crop/new crop spread for soybeans. The majority of the United States’ soybeans are planted between May and June. These same crops are harvested approximately six months later between October and November. This cycle leads to a sales cycle that runs year round, beginning in September, right before the new harvest, and ending in August, right after the new plantings.

South America is on a slightly different old crop/new crop spread. Their planting season operates between April and May, with their harvest occurring in September-October months. In fact, their cycle is different enough that the Chicago Board of Trade (CBOT) created a futures contract focused solely for the soybeans grown in Brazil.

Depending on which soybean cycle you wish to trade, the United States’ July/November or May/November old crop/new crop spread trade or South America’s April/September or May/November, the spread trade is based on the fundamental activity of the underlying commodities as well as the technical signals in the charts that can indicate whether or not the front month should be sold or bought.

The old crop/new crop is also called an “intracommodity” or “intermarket” spread. Since we are operating with the same commodity but in different months it is a lot easier to track, compared to the substitute good spread known as an “intercommodity” spread. The important concept to remember when it comes to the old crop/new crop spread is that the sum is more important than the parts.

Since the typical soybean intra commodity trade is long the spread, we are looking for the July contract to increase in value faster than the November contract. Therefore on a July/November spread we are looking for the prices to increase in value in relation to one another, a narrowing of the spread. Let’s say that the difference between July/November is equal to plus 20 cents. This means that the July contract is 20 cents greater than the November contract. As long as the difference between the July and November contracts is plus 20 cents or more, the long spread is intact. This is known as a 20 cent premium.

The success of the old crop/new crop spread, a seasonal trade, depends on one of three occurrences: The July contract’s price must continue moving up while the November contract stays the same, or the July contract’s price can move up while the November contract’s price moves down, or the July contract’s price can move up while the November contract’s price moves down simultaneously. With so many possibilities it is no wonder that this old crop/new crop interrelationship can have a significant impact on position traders who attempt to roll over an existing position trade.

If for any reason the July contract’s value dips below the November contract’s value, it is known as a discount. The onset of a discount type of spread scenario can be the beginning of a widening of the spread. For traders who are long the spread this can be disastrous. As the spread widens, the July contract drops in value and the November contract increases in value. A long spread trader begins to lose money on both sides of the spread trade. This is the chief danger of any type of spread trading, but with the old crop/new crop spread trade it can quickly become apparent that the spread is not working. Any failure to jump ship immediately from a long spread or to convert a spread position from a long spread to a short spread can quickly lead to insurmountable losses.

Source by Noble Drakoln

Old Crop/New Crop Spread: An Intracommodity Spread http://spreadbetting2017.com/old-cropnew-crop-spread-an-intracommodity-spread/