08-03-2008: February Pork Bellies: Hog Farmer Overproduction Again Rears Ugly Head
Although we are looking at February contracts in this article, the front August contract is experiencing a severe limit-down decline. Farmers are once again not restraining hog production and with high slaughter rates acting to the detriment of all, even with falling grain prices, we could see a meltdown in pork prices. Exports continue to support sufficient demand to offset the overproduction to some degree, but a rising U.S. Dollar could rapidly short-circuit that.
One thing to bear in mind when looking at our figures is that a variety of chart sources are used, some based solely on the February contract, and others forward-adjusted. Our method of forward-adjusting is different from most, but we feel it reflects more accurately what would actually happen if one kept rolling forward contracts. Because the cost of storage is quite high for frozen pork bellies, and this is built into farther out contract prices, our historical prices on forward-adjusted data are much higher than the actual prices were in the past. Still, we think this more accurately reflects what would happen to traders on a day-to-day trading basis. So, for example, you might say pork belly prices have never been as high as 173.00 as shown on our point-and-figure chart. You would be right, for over a three-year period they never got above 119.00. But the latter figure would not factor in the "cost of carry," which is very high for pork bellies. That means you might take a significant loss in a roll forward to a more distant contract.
February Pork Bellies:
February Pork Bellies:
A falling U.S. Dollar prompted stronger pork exports to offset overproduction which otherwise might have caused a colapse in pork prices. 1998 was an example of a year when overproduction caused such a colapse. Prices then for bellies dipped to $33. Pork production recently was up 9.2% over a year ago. Even record high corn prices did not stop farmers from increasing production. The June 1st count of all U.S. hogs and pigs was 67.66 million head, up 5.8% from a year ago. Frozen pork inventory was 519 million pounds, up 11% from a year ago and frozen bellies totalled 75 million pounds, up 60% from a year ago. Recently, a surge in cash bellies and another jump in ham prices pushed pork cutout values to a new high. A sharp break in grain prices should ease concern about liquidation of breeding stock. Futures have been operating at a slight discount to the cash market. Hog slaughter this week was estimated at 420,000 head in the most recent day, 1.656 million head for the week, up slightly from the previous week, and well above trade expectations. August bellies in most recent trading were limit down, while hogs in general were mixed. Pork bellies were down the 300 point limit. August closed at 65.50. Cash markets were simultaneously trading at higher prices. Renewed exports to South Korea and other countries attracted speculative buying in the pits. Deferred hog contracts were lower, pressured by sharp grain price declines, although we believe the latter should have been supportive because it tends to cause farmers to withhold from market longer. In summary, frozen stocks are estimated at about double those of a year ago and large slaughter rates continue to weigh on futures.
193.0I T 8/ 1
I CME - Feb-09 Pork Bellies, 40000 lbs., c/lb Cm.=0.08 Lim.= 1.2
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The above point-and-figure chart is giving a conventional sell signal.
We are headed toward a cyclical low and are in a seasonal down period.
Our best-performing internal program is " DCV." It is giving a tentative sell signal. signal.
Results of "DCV" for Pork Bellies (blue lines = successful trades, red, unsuccessful): (Always in the market.)
Our third system has triggered a buy signal. Disregard the last down arrow. (Note, disregard the year date on the chart. Our regular readers know this is not a Y2K-compliant system, but it still works.)
The point value is $400. Initial margin on a single contract is $1,863. Use of options is advised.
Scale traders are not a factor in this price range.
In the chart below, the yellow line is the futures price, read on the right axis. All other colors are read on the left axis. Red is small speculators. Green is large speculators. Blue is commercials. Commercials with the best track record are getting increasingly-long.
The average volatility shown below suggests that the current downtrend from a volatility low remains intact.
Our option trade recommendation is to sell the Pork Bellies February 96 Call @ 4.775 or better. These options are extremely-thinly traded, adding to the misery of poor management of options by futures exchanges in general, so if you sell one, you may have to carry it all the way to expiration to realize the profit.
What the Feb-Mar calendar spread suggests to us is that there is no consistent trend as to whether buying or selling the near contract and selling or buying the far one is at most times profitable, which we think is a sign that these futures may stay relatively flat. The best time to enter or leave the above spread is when it is at +2.90 or wider selling the near as prices are falling and buying the far, and exiting or entering when it is at -2.70 or wider buying the near as prices are rising and sellling the far.
Here's an intraday chart for the previous day ( 8/01 ).
Risk Versus Opportunity Report
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PBG9 February Pork Bellies
High Price: 97.32
Current Price: 89.92
Low Price: 74.57
Risk: -0.172
Opportunity: -0.357
(O/R) Ratio = 2.074
Level Table:
| Factors | Weighted Points |
|---|---|
| Parabolic Chart | + 1 |
| Nirvana Chart | + 1 |
| News | - 1 |
| Point & Figure | - 1 |
| Cyclicals | - 1 |
| Seasonals | - 1 |
| Internal System 1 | - 1 |
| Internal System 2 | 0 |
| Third System | + 1 |
| Commitment of Traders | + 1 |
| Historic Range | 0 |
| Range/Volatility | - 1 |
| Level Table | - 1 |
| Other Factors | - 1 |
| Total | - 4 |
Place 8 February Pork Bellies on a Sell Watch with stoploss @ +6.65 above the get-in point.________________________________________________________________________________________________________M.T.
