"Shootin' The Bull" Weekly Analysis...

For the week ending May 20, 2022

In my opinion,  the fat market appears divided into two camps.  Those being, ample inventory to work through into August, and dwindling supplies afterwards.  The futures markets appear priced accordingly to the perceived fundamental environment.  That being, discount of futures to cash into August, near even with cash to October, and premium beyond.  The on-feed report showed a slightly larger placement, keeping the on-feed number elevated, but I think this may be the last elevated placement for at least a few months.  Unfortunately, nothing suggests to anticipate a price move of significance in the fat market anytime soon.  The intent of vertical integration is to strengthen supply lines to a point in which fewer production gaps occur, reducing the potential for price spikes.  Going forward I anticipate cattle feeders to experience one of two factors.  If outside of vertical integration, input costs won't be returned from the proceeds of selling fed cattle.  If inside of vertical integration, input costs will be as high as those outside of, but will have a greater potential to return input costs through participation of beef sales.  Unfortunately, the vertical integrations point is to produce price stability.  Therefore, as input costs remain elevated, the margin will slip without the aspects of higher beef and cattle prices.  Lastly on this, I hope industry leaders are looking at what transpired in Australia after their drought subsided.  Similar to the US in 2014, prices sky rocketed.   The only problem was that the price went up so far, so fast, that few had the opportunity to replace cattle at lower prices.  Soon, cattle prices for all categories were so high that expansion could not continue.  To date, I am under the impression that Australia remains 20% from previous production levels of stability. Their drought aspects ended in 2019.  I think the US will experience a similar situation as US cattlemen are bullish and nothing is going to sway them from that thought.  In my mind's eye, with inflation not going away for some time to come, and losses continuing to mount in most all livestock production arena's, I find it difficult to see where the US could expand.  No doubt, I believe they will try, but I am unsure why as after 8 years from the top, few producers are consistently profitable.  If the industry can't be profitable at this herd size, how will they if they increase it further?  I believe our industry leaders need to have long look at what is coming down the road and face some tough challenges ahead.  Just right off the cuff, inflation has not even begun to subside.  The current administration has another 2 more full years before in jeopardy of being voted out.  Look at the inflation to date and plot a course along the same line for another 2 years.  From the speech Fed Chairman Powell made this week, his verbiage was sounding increasingly like throwing the economy into recession would be better than keeping with the inflation.  So, I have taken the steps to try my best to not be surprised of anything the Fed does to dampen inflation.  I do not know what they could do, but I do know what they are capable of doing.  That being, making a bad situation worse.  I look for energy to be attacked directly.  Again, I don't know how, I just believe they will do something, and it come out of left field.  Then you have the battle to strengthen vertical integration.  Supply line issues are on the nightly news every night.  Cattle production to beef processing is a supply line chain that is in the midst of being formed.  It will take another severe price move to solidify this further.  Whether it be higher or lower, I do not anticipate the industry being able to thrive until further vertical integration can take place.

Feeder cattle have been trading lower and the index has finally begun reflecting the horrible feeding margins.  Something had to give and it appears the feeders are what's giving in.  Feed costs remain elevated and a shock this morning of hearing freight rates at $5.25 per mile and higher.  This week, I have been adjusting previously recommended hedges.  Those hedges were fence options strategies that consisted of buying at the money puts and selling $10.00 out of the money calls.  With the combination of time decay and price movement, those call options have depreciated to a level in which the risk to reward ratio is skewed greatly.  Therefore, I recommended to buy back the short call options, maintain the long-put option, and if more premium is desired to be collected, sell the put option strike at or below the current index reading.  This was a sales solicitation.  Making these adjustments will relinquish the margin requirement and unlimited risk factor of higher price fluctuation.  However, note that risks change, and are not alleviated. The risk then changes to the downside for which if the underlying futures contract exceeds the strike price of the short put, you become flat the market if you still own the long-put option.  So, any lower trading that may occur, you are not privy to. In order to remain short, you would have to make another transaction of some kind.  Lastly, this week I fielded multiple questions about LRP's.  I am not an LRP agent.  Apparently, someone has been selling a lot of LRP insurance that has created windfall profits for some. Unfortunately, to the best of my knowledge, you can't liquidate the option until the expiration date.  As well, I believe these LRP's are available in months for which there is not a futures contract.  I was quizzed on attempting to use futures or options to hedge the hedge.  Here is what I think.  I think you open yourself to risks above and beyond the initial risk you attempted to hedge against in the first place.  The inability to access open position equity of the LRP and have a futures position moving against you, could cause actions or reactions that increase losses, or reduce profit potential.  Secondly, if attempting to use options, consider the premium of futures, the spread between underlying futures contract and strike price, plus premium of option.  These factors will eat into a significant portion of your open position equity.  So, please consider carefully what your initial objective was and consider maybe just keeping it like that because at this juncture, you have still marketed the cattle at the strike price of the LRP and only need convergence of basis to materialize to realize your sale price.  If you are losing open position equity in the LRP, you are gaining it on the cattle and vice versa. 

Grains were wild this week with corn and wheat giving up ground and beans gaining.  I do not know what the strength in beans were this week, but they were stalwart in comparison to corn and wheat.  My corn analysis is in limbo.  The most recent range between $7.03&½ and $7.66&¼ could be either a completing 5th wave of the major wave 3, or a lesser wave 1 & 2 of the wave 5 of 3.  I do know all the numbers can get a little confusing.  If you look at the charts on our website, it will clarify some of what I am attempting to explain.  Long way around the barn, but a trade under $7.03&½ December corn will lead me to anticipate a trade down to $6.50, while a trade above $7.66&¼ will lead me to anticipate an extension of the move higher.  At present, I lean towards the bottom being exceeded first due to the anticipation of an increase in planted acres this week. I anticipate beans to trade lower as well and do not know why they were so strong this week.  Wheat is questionable as the breakout to the upside has fizzled.  The bull market has not been broken in my opinion and therefore is just searching for some support.  I am taking a step back from being overly bullish at the presently known top in preparation of a Fed or Administration move that would pull the rug out from underneath the feet of bulls.

Equities are in a bear market.  Interest rates are going to move higher.  My personal take on Fed Chairman Powell's statements this week seemingly took the tone of, recession before any further inflation.  How they will do such, I do not know.  I do know they have a bag of tricks that may not reverse inflation, but could slow it immensely.  Bonds were higher this week due to aspects of the Fed's actions pushing the economy into a recession.  The US dollar was mixed this week.  I continue to anticipate equities to move lower as the objective of combating inflation is to make money more expensive and destroying as much of the 7.5 trillion dollars as they can.  Markets feed on money.  If you take the money away, it starves and shrinks.  Since the March of '20 low is where the influx of fiat money came from, that is point where the market will return to as it is destroyed.

Christopher B. Swift is a commodity broker and consultant with Swift Trading Company in Nashville, TN. Mr. Swift authors the daily commentaries "mid day cattle comment" and "Shootin' the Bull" commentary found on his website @ www.shootinthebull.com
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