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Welcome to the home of the Modern Farm Business® podcast, hosted weekly by Dean Heffta. Modern Farm Business translates proven methods and best practices from the business arena to today's modern farm leadership environment. We'll be learning from forward-thinking experts and discovering how to apply time-tested techniques to make real improvements on the farm.

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Dec 14, 2017

Dean talks with Rich Feltes, Head of Market Insights at R.J. O’Brien, to add clarity about various aspects of the market including; Who are “The Funds?” What do I need to know about “open interest?” How does the “Commitment of Traders” report work?

Q & A SUMMARY

Q: Who are “The Funds,” and what do I need to know about them?
A: There are two categories of the funds:

  1. Index Funds – Long positions in commodities as a fixed part of their portfolio. Don’t change much over time, other than to sometimes slightly readjust at the end of the calendar year. These funds are generally fairly stable, and they don’t really affect the market.
  2. Managed Funds – These change on an ongoing basis, sometimes rapidly. They trade both long and short positions.

Each Friday afternoon at 3PM ET, the Commodity Futures Trading Commission (CFTC) releases an updated report which shows, among other things, whether the Managed Funds are overextended to the long or the short side as of Tuesday that week. This is a good thing to look at when dealing with futures. It can really make an impact when we see an overextended position by the Managed Funds, and some sort of fundamental trigger occurs which prompts them to reverse their position. Typically, the Managed Funds build their positions slowly and methodically, but if there’s a major change in fundamentals they run for the door all at once and can cause a violent price reaction. There are “bean counters” around too—services which report day-by-day on Fund positions, showing a daily estimated change in Managed Fund positions. Sometimes they’re accurate, but sometimes they’re wildly inaccurate; it’s mostly guesswork.

Q: We tend to think of the Managed Funds as a collective “thing,” but in reality there are many independent players there. Who are they, and how are they making their decisions?
A: The Managed Funds represent independent investors who have given their money to a hedge fund, a Commodity Trading Advisor, a pension fund, etc.. These are large money managers who do it full-time and watch fundamentals and technicals very carefully. Sometimes they are backed up by algorithmic trading computer programs that run on mathematical models. The net of all these positions is collectively tabulated by the CFTC as the Managed Funds.

Q: You briefly mentioned “The Commercials.” Who makes up that group?
A: Largely those are the grain companies—your ABCD (ADM, Bunge, Cargill, Dreyfus), who absorb the grain at harvest and then merchandise it throughout the marketing year. Also included in that group are major grain users, such as Tyson, Perdue, and other large livestock entities with positions in the grain market. The grain companies are, for the most part, long the market, and they absorb the hedges when farmers are selling grain and they buy. The Commercial positions in the weekly CFTC report typically don’t vary as much as the Managed Funds component.

Q: How about “open interest?” What does that mean, and why is it important to a farmer?
A: Open interest is a summation of the participants in the market. If someone buys a contract and sells a contract, the open interest is 1. This is a tool the market technicians will use. If a market is advancing and the open interest is going up, that typically means new players are coming into the marketplace with new money to the market. It can work the opposite way too—if the market is declining and open interest is advancing, it could indicate that there are new shorts coming to the marketplace who feel like prices are still heading lower.
If the board advances and open interest has also advanced, but then you see open interest begin waning, in most cases that’s an indication that a lot of the bull news is in the market—that it’s discounted in price, and the board itself is about to roll over and break as well. We look at open interest every morning as confirmation that a particular trend is still in place—or if we see it starting to flatten out and the news is still good, that’s an indication that the market might be topping out short-term or reversing to the downside.


Q: So if price is in a downtrend but you start seeing open interest turn away from that trend, that gets your attention, and on the flip side, if price is up but open interest takes a downturn, that also gets your attention because something is not correlating?
A: Exactly. Now, we don’t put all our eggs in one basket, though—we’re looking at open interest, the Managed Funds positions, market reaction to bullish news, weather fundamentals and other data, with the Commodity Research Bureau Index (which is driven by the Crude Oil market) as a larger backdrop because the corn and soy markets—due to their linkage through biofuel production—are very closely tied to happenings in the energy market. All of these tools are helpful for decoding market direction.

Q: You’ve been in this business a long time. What sort of big changes have you seen in market behavior today versus, say, the 1970s?
A: There are several things that have changed, mainly around efficiency of the market. Just off the top of my head:

  • There is far less insider information around, as far as Commercials having an inside track on what’s going on in the cash markets.
  • The efficiency and speed of news distribution has radically increased market efficiency.
  • In the last five to ten years in particular, we’ve got the rise of algorithmic, computer-driven trading systems which buy and sell purely based on mathematical models. Traders will pre-program trade orders based on buy and sell triggers, and these trades are executed in milliseconds when the USDA report is released, so that while I’m still reading the production numbers, they’re already capitalizing on them.
  • Ag market price discovery is far less U.S.-centric today because of the rising dominance of South America, Europe and the Former Soviet Union as major ag producers. We have a much more global picture now.

We always welcome your feedback at Modern Farm Business Podcast. Do you have suggestions for future episodes, or questions on something we’ve already covered? Drop Dean a line at dean@modernfarmbusiness.com. He’ll look at each email personally and respond as quickly as possible.

Thanks for listening! See you next week!