The Only Level Playing Field in Investing – Options

I learned options late in life, accidentally, trawling the pages of the ancient magazine Exchange and Mart in 1995. A full page article showed how an options trader could work from home, (actually in bed) using prices from the BBC’s teletext, back in the day. A lot has changed, but options have been around for centuries-pre-dating shares, being used for pricing ships’ cargoes. In the 1980s options became exchange traded, and fortunes were made. Warren Buffett is a keen options trader, Nassim Taleb was the most prolific. They are not idiots and neither are you if you have read thus far.

Investing is the word we use for a trade that went wrong! Investing is mostly passive and requires you to be right and/or to tuck your stocks away for decades. With markets hitting new highs and valuations stretched, you have to realise the stock market cannot keep going up. If you are happy with paltry dividends and the certainty that your stock will at some point in the future be worth half what it is today, then read no further. QE is no longer on the table and that is all that has separated stocks from realistic valuations.

So what are options all about? In our world we only trade the FTSE100 options. Why? Because the entire index is unlikely to get arrested for fraud/sexual harassment/bogus accounting/toxic products, and all the other nasties that can destroy a company’s rep in a heartbeat. So FTSE is the underlying on which our derivatives are based. Options are the right to buy or sell the underlying (priced by the exchange at £10 per point cash settled) but NOT the obligation. In the same way as insurance companies collect premiums, however, options can be sold. Did you ever see a poor insurance company? When you get it right, selling options can bring you a monthly income stream of a comfortable 2% per month, consistently. Nothing else comes close.

So who are the buyers of options if everybody sells them? Well that is the biggest part of education, and the reason I have traded profitably since 1999. Yes I have had failures, and panics- but I made nice profits in February while the market dropped 10%, despite being a bit dim! I learned about options from an expensive course and from much of the free training on the internet. A while ago I met a like-minded options trader, he runs the website to which I contribute every week, with a real trade, and general tittle tattle about our world. It’s utterly mind-blowing when you start to understand options and the endless combinations, and 20 or more strategies that we use. I love options trading and I want to reach those with a pot of cash who seek income, and a sensible method with risk management, but who don’t know where to start. We are not just about newbies though-there are insights for all. And… we don’t want your money.

Bean Market Fear Shifts From Producer to Consumer

The soybean market has been held just under $15 per bushel since 2012’s US harvest. In fact, it traded all the way down to $11.50 last august before rallying through the harvest. Soybeans are up around 15% so far this year and based on a few factors, it appears that this rally could sustain itself. Currently, the market is sitting about where it is supposed to be; in a period of consolidation near the highs waiting to fall once the spring planting becomes more certain. I’m just not sure how much of a buying opportunity we’re going to get come the late June – July seasonal sell-off.

Fundamentally, ending soybean stocks have been reduced once again by the World Agriculture Board. Current estimates leave 130 million bushels in the bins, which is a reduction of 5 million bushels from their April report. This leaves ending stocks at 3.8% or, a 14-day supply on the market. This is a record low stocks to usage ratio beating out 2012-2013’s tightness by a hair. The scary part about this is that the continued tightness in the soybean market comes on the backs of fantastic production years. The US has produced an average of more than 3.2 billion bushels over the last five years. Going back to 1960, there are only three other individual years in which US production exceeded 3 billion bushels. Global demand continues drive prices higher as more people from more countries westernize their economies and diets.

Some of the supply tightness is expected to be covered by this year’s plantings. Current estimates suggest that the US will plant 81.5 million acres this summer. This would set a new record for planted soybean acres. Working out the math at an average yield of 45 bushels per acre puts us at better than 3.6 billion bushels produced. That would set a new production record, surpassing 2009’s 3.36 billion bushels. It’s important to remember that these are projections. The reality of this year’s harvest could be significantly different as the odds grow on this becoming an, “el nino” event.

The current forecasts for 2014 becoming an el nino event continue to climb. The National Oceanic and Atmospheric Administration (NOAA) have increased their prediction certainty to 65%. However, I’ve read private reports that are expecting an el nino occurrence with an 80% degree of certainty. A couple of el nino issues need to be sorted out. First, its impact on this year’s crops is usually limited to harvest time – not planting season. Secondly, it could bring more rainfall and cooler temperatures to the Southeast and into Texas, where it’s desperately needed. Finally, California’s San Joaquin valley where it’s also desperately needed as they’re expecting leave nearly half a million acres fallow this summer. El nino is hoped for, rather than feared in many areas this year.

That being said, it’s also important to note that the current el nino predictions are being modeled after the 1996 and 2001 el nino events. The soybean futures’ trading pattern in these two years could not look more different. The 1997 event led to exceptionally high prices for old stock beans, which rallied nearly 30% by early May. Meanwhile, new crop, November beans for 1997 remained relatively stable in price before rallying as usual into the harvest period. The 2001 scenario saw the market decline by more than 15% through the spring before rallying the rest of the year, eventually climbing more than 30% from their spring lows.

The interesting thing about this year’s setup is the way the commercial traders are treating the market. Typically, we start seeing commercial traders sell into the pre-planting rally as they try to capture quality pre planting hedge prices. This year, we’re seeing an onslaught of commercial buying. This seems to be happening more regularly and may be their new trading pattern, which you can see on this chart. We’ve seen strong commercial buying in 9 out of the last 12 weeks with net purchases of more than 100,000 bushels. We saw this type of action in 2011 and while it was a choppy ride, the market held and made new highs in early September before falling post harvest. We also saw this early last year and it led to another $1 per bushel rally into mid-summer. It appears that we’re seeing a shift from supply side forward hedging of crops by producers to predominantly demand based hedging by end users attempting lock in pre planting prices rather than waiting and hoping for a post-harvest sell off.

The issues facing this year’s soybean crop are not only varied in their nature but also add a huge wildcard to their potential impact. We can be fairly certain of the global demand numbers. I don’t think people will be any less hungry this year. The US supply is expecting to set a record but, it has to just to offset the declining current stocks. The el nino while growing in the certainty of its development has still provided few clues as to its strength. A benign effect could leave the world with huge harvests, as the summer is cooler and wetter than usual. However, some are comparing it to 1997 when el nino effects claimed more than 2,000 lives and caused more than $30 billion worth of global damage. Given all of the variables in play, it appears particularly important that the net commercial position is betting on higher prices by harvest.

Here’s What Happened the Last Time the US Applied Steel Tariffs

While Donal Trump says “Trade wars are good, and easy to win,” history suggests otherwise. In March 2002, George Bush gave into lobbyists and slapped on steel tariffs of between 8% and 30% on imported steel. At that time, Bush exempted Canada, and Mexico because of NAFTA, plus a few developing countries.

Immediately after those tariffs were applied, the S&P 500 dropped over 33% over the next seven months.

Trump is demonstrating that he is no more astute than Bush was, assuming that a trade war is a ‘good thing’. Every time a country applies protectionist policies, other countries do the same, and the losers are the consumers who end up paying more for the finished products.

Governments always react, never fully understanding the end result. Trying to protect an inefficient industry in your country by applying tariffs against a more productive country does not make the domestic industry more efficient, it just makes the finished products more expensive for your consumers. Tariffs are designed to raise the cost of imported goods. They are nothing more than a tax, and in this case, a tax to be paid by US consumers.

So sure, Trump may succumb to steel lobbyist in the US and apply these tariffs to save 143,000 jobs in the steel industry, but these tariffs will hurt over 6 million other workers in industries like the auto industry that use steel to manufacture their products. The end result is the finished products that use steel or aluminum are going to cost more for consumers. So how is this a ‘good thing?’

For US companies that use steel and aluminum, not only will their costs go up, they will be less competitive, and their exports will suffer. And then of course we will have the problem of reciprocal tariffs that have already been threatened by countries being hit by Trump’s steel and aluminum tariffs. The European Union and Canada have already stated that they will retaliate.

Currencies play a huge role in the cost of imported products. Canada is the biggest exporter of steel to the US. The $CAN is currently trading at 77.50 against the $US, meaning all other things being equal, steel priced in $CAN will be 22.5% cheaper than steel priced in the $US.

While these tariffs may help the bottom line for American steel companies, the real losers will be the US consumers. If this turns into a full- on trade war, there will be many more casualties globally, including investors.