Hedge funds headed in 2018 record net short in agricultural commodities, clashing with ideas that the year could prove a strong one for raw materials as a whole, to judge by relative valuations, and economic and currency forecasts.
Managed money, a proxy for speculators, lifted its net short position in futures and options in the top 13 US-traded agricultural commodities, from corn to sugar, by 11,946 contracts in the week to December 26, analysis of data from the Commodity Futures Trading Commission regulator shows.
The shift took the net short – the extent to which short holdings, which profit when values fall, exceed long bets, which benefit when prices gain – to 331,777 contracts, the largest on data going back to 2006.
Short betting proved broadly a winning formula for investors last year, with the Bcom ag subindex ending the year down 11.9%, at its lowest year-end close since it was launched in 1991.
‘Screaming to be bought’
However, many observers believe that prices of commodities as a whole may be poised for gains in 2018, US-based Hackett Financial Advisors, for instance, flagging a historically low valuation of raw materials, compared with values of US equities.
“In 2008 stocks were screaming to be bought on this valuation metric, and that was proven correct," said Shawn Hackett, the fund’s president.
“We now have the exact opposite condition where commodities are screaming to be bought at the expense of stocks.”
‘Excuse for dollar weakness’
Other factors seen as supportive of commodity prices are expectations of strong world economic growth in 2018, including in China, where the Caixin-Markit manufacturing purchasing managers’ index for December came in at 51.5 - up from 50.8 in November, and above the 50.6 reading investors had expected.#
The dollar is also seen by some commentators as poised for weakness, boosting the affordability of dollar-denominated commodities, with Morgan Stanley, for instance, saying that “the recent decline of US consumer confidence may act as an excuse for dollar weakness”.
The easing in optimism “indicates the US may be saving more and helping to fund the tax reform-driven increase in investment spending, and helping to keep US bond yields low”, said Hans-Guenter Redeker, the bank’s global head of foreign exchange strategy.
Furthermore, prices of individual commodities are seen as finding support from changes in consumption patterns, with values of nickel and cobalt, for instance, in the spotlight over ideas of the boost to battery demand stemming from the growing numbers of electric cars.
‘Job is to sustain low prices’
Ag advisory group Water Street Solutions flagged “the hope of a brighter new year ahead”, underlining “the continued optimism of global economic activity moving into 2018” and recent weakness in the dollar.
It also highlighted that in the US grains sector, “ethanol demand and plenty of animals on feed is keeping demand strong”.
However, other commentators underlined the continued surplus in supplies of many ag contracts, and was behind the sector’s poor price performance last year.
Richard Feltes at Chicago broker RJ O’Brien said that the “job of grain markets, against a backdrop of plentiful US and global stocks, is to sustain low prices to encourage ramped-up demand”.
Minneapolis-based broker Benson Quinn Commodities said that “despite ideas that the funds will take a more aggressive approach to owning commodities in 2018, burdensome supply in corn and wheat will continue to be a challenge” to higher prices.
‘Much bigger net short’
Still, Benson Quinn Commodities underlined too the extent of short positions that funds have already taken in agricultural commodity derivatives, potentially limiting their appetite for further such holdings.
At the end of 2016, funds held a net long of 376,579 contracts in the main US-traded ag contracts.
“The difference between this year and last year is the fact that funds hold a much bigger net short in corn and the winter wheat markets,” the broker said.
“I do expect money flow to allow for better recoveries in the first half of January.”
Wheat, coffee, cattle selling
In the week to December 26, notable moves in hedge fund positioning on ags included a net selldown of 3,441 lots in Kansas City hard red winter wheat, driving the overall position to a record net short of 34,422 contracts.
This selling came despite fears over dryness and cold getting US winter wheat seedlings off to a poor start.
In Chicago soybean futures and options, hedge funds followed up their record net selldown of 60,526 lots the previous week with a further sell-off, of 28,320 lots, to drive the net position to a short of 69,091 contracts, the highest in six months.
In New York-traded arabica coffee, speculators edged their net short higher by a further 945 contracts, setting a record high, this time of 57,846 lots, for a third successive week.
In the livestock sector, the managed money net long in feeder cattle fell for a seventh successive week, matching the longest selling streak in six years, to a nine-month low of 6,807 lots.
Cotton bucks the trend
However, speculators maintained a buying spree in cotton, in which they raised their net long by 4,727 lots back above 100,000 contracts for the first time since May.
“The weak US dollar is probably playing a role here as it makes cotton from the US more attractive for international buyers,” Commerzbank said, noting downgraded forecasts for Indian exports too.
“The increase in oil prices is also likely to have boosted the cotton price rise, as it makes artificial fibres – which compete with cotton – more expensive.”