Category: Commodity Trading

Political beginnings

The turn of the millennium ushered in a new administrative system in London – namely, the Greater London Authority Act – which devolved responsibilities like transportation, emergency services and economic development to an elected Mayor of London. Then independent candidate, Ken Livingstone championed the cause of congestion pricing as his electoral platform. Eventually, for two consecutive terms, he served as Mayor of London, and became the man responsible for establishing one of the largest congestion charge zones in the world.

That is not to say that he didn’t face widespread opposition from politicians, labour organizations and motorists (1). Although the opposition’s plans of completely scrapping the “Kengestion” charge have now been scrapped themselves, the incumbent Conservative mayor Boris Johnson is much less disposed to remedy existing inefficiencies in an economically sound way, than his Labour Party counterparts. Quite ironically, he cited Professor Edward Glaeser to advance such actions as halving the charging area and opposing price hikes, unaware that his ‘muse’ would infact support the free-market logic that Johnson inadvertently opposes (2).

Changing policy environment

The congestion charge policy in London has gone through substantial change within the 10 years that it has been around. Perhaps because it was one of the few cities that led the world in this kind of scheme, and perhaps because it has remained a contentious political issue, the policy seems to have undergone periodic revisions which, when summed up, appear rather contradictory and inconsistent.

Initially, the charge was intended to reduce congestion on the roads – an externality faced by all travellers to and from central London. A £5 daily charge was thus levied within a defined zone, and the market was allowed to take effect.  Moreover, the revenue generated from this charge, it was said, would be used towards strengthening the public transport system (to absorb the travellers disincentivized by the charge). Official (Transport for London – TfL) reports estimated that in fact, there was a 20-30% drop in congestion (“defined as excess delays per kilometre ) following the charge (3). However, according to the same official sources, despite an increase in the daily charge to £8 in 2005, the decline in congestion was not sustained over time, and instead, it trended upwards (4).  TfL cites reduced capacity of roads (due to higher road works for construction of bus and pedestrian lanes) as the cause of this trend.  The data does in fact show that traffic levels had declined and then stayed constant. However, if the revenues were used to finance the construction of such bus and cyclist lanes, the goal of reducing congestion was evidently overridden.

Moreover, while questions were still being raised of the effectiveness of this congestion charge zone at reducing travel time, a month ago, Mayor Boris Johnson announced “his vision to see the world’s first ‘Ultra Low Emission Zone’” (5). A shift towards a more rigorous emissions reduction policy goal can be seen since 2011, when the daily charge was increased to £10, and perhaps more significantly, the exclusion criteria became more explicit in favouring low-emissions vehicles. Initially, those excluded by the charge in 2003 were residents of the zone (they received a 90% discount), emergency vehicles, public transport vehicles, motorcycles, bicycles, and certain vehicles using alternative fuels (“these included the cleanest LPG and natural gas cars, and all electric and battery-electric vehicles”; the car had to be listed on the “PowerShift Register”) (6). In 2011, the Alternative Fuel Discount was replaced by the “Greener Vehicle Discount”, which exempts “cars that emit 100g CO2/km or less and meet the Euro 5 standard for air quality” (6); all plug-in and electric hybrid vehicles are therefore exempt (6). Sure, this may help in emissions reductions, and sure, that is an international commitment of UK. However, the question remains whether the original policy goal is met? The current specifications are essentially incentivizing increased traffic – albeit cleaner – but road space nonetheless. Therefore, from the perspective of a polluting consumer of the road space, he is not receiving the benefits of reduced congestion despite paying a heavy price for it. For a clean, non-polluting consumer: well, we’re back to the problem of public goods, where some consumers pay for benefits (road space) that accrue to others.

Final comments on effectiveness

Hilton Holloway (blogger for AutoCar) considers the congestion charge policy as “outright farce”, given that it is the city’s “ageing taxi cab fleet” and its “lumbering, stop-start, buses and commercial vehicles” that are “responsible for 25 per cent of diesel pollutants” which are implicated for air pollution (7). Therefore, he believes that exempting a few thousand new cars will not infact induce emissions reductions, and neither he says, will it incentivize more traffic in the zone (because these cars form a small fraction of the total traffic currently entering the zone). While I cannot argue for or against the government’s perverse agendas to sustain revenues from the congestion scheme as he does, I do agree with his first point about the nominal effect of exempting low-emissions vehicles.

In any case, to achieve the kind of emissions reductions from hybrid cars that will be required for Greater London to become and Ultra Low Emissions Zone, there would have to be a sustained increase in the numbers of these vehicles, which, given the exemption from congestion charge, would treat the zone as a public good, and would contribute to increased congestion as before. Therefore, I find this scheme contradictory and unsustainable in the long run.

References:

1. http://www.vtpi.org/london.pdf
2. http://www.guardian.co.uk/politics/davehillblog/2012/nov/13/london-road-congestion-edward-glaeser
3. http://www.tfl.gov.uk/assets/downloads/Impacts-monitoring-report-2.pdf
4. http://www.tfl.gov.uk/assets/downloads/sixth-annual-impacts-monitoring-report-2008-07.pdf
5. http://www.bbc.co.uk/news/uk-england-london-21451245
6. http://www.nextgreencar.com/congestioncharge.php
7. http://www.autocar.co.uk/blogs/green-cars/londons-congestion-charge-descends-farce

This week, I relied on past sources for technical trading information, namely the Wall Street Journal, Barchart.com and Tradingcharts.com. Andrew had also mentioned Trading Charts in his presentation so I was assured that a combination of these could be relied upon for technical analysis. As before, the market data centre in the wall street journal allowed me to see soybean price changes in context of other commodity price trends such as corn and wheat, as well as other important commodities like crude oil; it allows you to see price trends of both on the same chart.

After my trade, when I tried to reflect on the theory of the ups and downs in prices this week, I looked up one new source called Farms.com (http://www.farms.com/), Yield Data Centre. As the name suggests, it basically provides information on commodity yields throughout the world. It is informative because it informs the reader about yields and harvests in all the major countries, as opposed to just the U.S. It also places these figures in context of world news stories, like the lowering dollar due to easing concerns of the fiscal cliff which has been an important factor with traders this week.  I found their section on Government and Policy interesting, because the stories it carried gave me some new insight into farm policies in the U.S. that have an impact on prices.

I looked up why the prices actually rose over the week and found the following causes: earlier in the week, due to “technical and commercial buying” (1) and due to a lower dollar which in turn was because of the “easing concerns about the fiscal cliff” (1), there was the net effect of lowering soybeans prices. At the same time, traders are watching the South American for news of delayed plantation given the heavy rainfall it received this season. It turns out that fewer soybeans have been planted at this time as compared to last year, which may have also driven prices up. Later in the week, soy oil exports rose which helped to keep soybean futures prices afloat (2).

Although technical analysis seemingly worked for me, I think it’s a bit of an odd way to go about making big trading decisions. One often hears technical traders say that theory should not be mingled with analysis of price charts, so that is what I did: I refrained from reading into the demand and supply forces at play and focussed just on ups and downs in prices (which certainly made my life a lot easier this week).  For future trading decisions though, my choice of doing technical analysis vs. reading into the theory of demand and supply would simply be a result of whether I am plugged into the market or not. It is assuring to know that even if one is oblivious to what is going on in the market, they can likely make a technical trade as good as any other “expert” who has been completely plugged in at the time.

1. http://www.farms.com/news/corn-soybeans-prices-rise-on-market-strength-57185.aspx
2. http://www.thecropsite.com/marketreports/bruglerreports.php

As I had mentioned in my last post, I had wanted to try staying in my trade for a longer period.  Based on Andrew’s presentation on technical analysis, I tried to devise a long term strategy and got into 2 long soybean contracts on Monday and stayed in until Friday. Although the prices fluctuated all week, I realized a net gain of $1850 on each contract as soybean prices rose $0.37 this week.

This week my trade was all about technical analysis. To do that, I honed in on the price charts for this past year and the last 6 months to try to find identifiable shapes like the head and shoulders, ascending and descending triangles and so forth. I noticed somewhat of a ‘head-shoulders’ shape which started in July this year, reached the peak of the left shoulder in mid-July, then reached the peak of the head in September, and finally, reached the peak of the right shoulder in November. By mid-November, prices had already dipped to July levels. So, at the start of the week, I had to make the decision of whether to go long or short. I figured that since traders will like to seize this low price, they will go long to lock in some profits. Also, since the ‘left shoulder’ isn’t too well defined, perhaps what we are seeing is instead an inverted head and shoulders, where the left side of the inverted shoulder happened in mid-October, and the current November prices are the lowest point of the inverted head. In this case as well, one would expect prices to go up before the ‘right shoulder’ appears. For this reason, I went long and realized some gains as a result.

Chart from: http://online.wsj.com/mdc/public/page/mdc_commodities.html?refresh=on

This week, I found a website called barchart.com. Although I have the first half of the term (and some very valuable trading experience) behind me, I still need lots of explanations for how the markets work in order to verify my line of thought. Barchart was therefore a great discovery, because not only did it provide brief explanations for the daily changes in prices, but one article in particular helped clear the air on how weather reports should be analyzed. It is called “Watch Out! It is Raining in South America” by Chris Lehner of Archer Financial Services.  He tells his readers to be more realistic about interpreting weather information by going back to a basic understanding of harvest seasons in the northern and southern hemispheres. Instead, he expects that there will be more “bouncing of grain markets due to changes and rumors about weather than a basketball during an NBA playoff game.” http://www.barchart.com/headlines/story.php?id=7178068

I think the article could make for a good read for anyone looking for a summary or refresher of Jim’s notes on futures trading so far because the article helps to tie the theory of daily price volatility and spread positions into the current state of the market.

Another link called “Futures 101” might also be useful for anyone needing to brush up on the theory. http://acs.barchart.com/sample/support/fut101.htm#buying

For the last two weeks, I have noticed significant currency effects at play. I’d like to read into this a little more for future trading decisions. For the coming weeks, as I check for analysis of other grain prices for substitution effects on my chosen commodity, I’ll also be looking into trends and expectations of the dollar because it seems to exert a great deal of influence over commodity markets.

Moreover, I’d also like to understand better why and when commodity pullouts take place. I’d like to explore whether I am right in thinking that a rise in prices can soon after be followed by a decline as traders lock in their profits. So far, I have been assuming that the timing of this cannot be predicted, but one can research the price levels at which the price trend has been seen to reverse, and perhaps draw some conclusions from that.

I am also considering holding long term positions in the future – positions held over weeks or even the remaining month. The reason is that I find myself quite confident about my trading decisions (although much less so about Tradesim!), given my analysis of the news reports I read. I may do this starting next week, or the one after that.

I went short two contracts of soybeans this week, and realized gains of $450 on each contract. All grains ended lower this week pressured by the appreciating US dollar. November soybeans ended 31 cents lower on Friday, which is the day in which I made my trade.

Soybeans were tricky to trade in this week, because there were in effect, two opposing forces at play. Firstly, Argentina has had three times the normal rain than usual this month, which means that 45% of their soybeans fields are excessively wet (1). On the other hand, about 30% of Brazil has been too dry for planting (1). This expectation of tightening supplies had an aggregate effect of pushing up soy prices early in the week.

That said though, after continued price rise, “speculative-profit taking” (2) or pulling out of the commodities can somewhat be expected as long traders lock in their profits from the rises in price. When lots of traders pull out in this way, prices can drop quite sharply. I did not predict that this will happen on Friday, but I had gone short on soybeans for another reason: the expectation of an appreciating US dollar ahead of the US elections. Ultimately, I think it was both of these factors that played a role in pulling down the price of soybeans, and I made some profits as a result.

1. http://www.bloomberg.com/news/2012-10-31/grains-soybeans-rise-on-weather-concerns-in-argentina-brazil.html
2. http://online.wsj.com/article/DN-CO-20121102-013263.html

I started reading the Wall Street Journal this week. They had an article on declining corn and wheat prices that explained the relationship between supply and demand forces at the different price levels in layman’s terms. Many of the sources I had been reading previously would present useful information, but which was laden with technical jargon that I didn’t fully understand.  Their page on “Market Data Centre” also offers some neat features. If you click on their “Commodities and Futures” tab (http://online.wsj.com/mdc/public/page/mdc_commodities.html?mod=mdc_topnav_2_3000). Beside the prices and changes of the various commodities, the website allows you to see a chart of the price (over days, weeks, months or years) of one commodity and compare this to the price trend of another commodity on the same chart. I had been looking for something like this so I am glad to have finally found it.

The wall street journal article also led me to look up one of the trading analysts they cited. Four Seasons Commodities Corporation is a commodity trading advisor firm owned by Steve DeCook. On their website, I found monthly trading reports (released in the middle of every month). They basically provided a summary of the information I had been gathering from other news sources over the last few weeks. Reading some of these also helped me understand the supply and demand forces at work at different points in the market. To see these reports, go to http://www.fourseasonscommodities.com/.

It is expected that US Wheat exports will pick up as we move towards the end of the year because global wheat prices are expected to rise worldwide and demand from North Africa and the Middle East rises (1). I will be keeping this in mind as I make future trades in wheat. I expect weekly fluctuations, but I will do some more research before adopting a longer term long position in Wheat.

Also, this week’s trade was a great learning opportunity for seeing demand and supply forces at work. For instance, I realized that although lower supply had been keeping prices of corn high, at a certain price level, demand would fall, causing prices to trend downwards. For corn, an analysis I read informed me that if the price of corn gets up to $8, then demand is lost. But if price comes down to $7 or lower as a result of this, then at this price level, demand will exceed the supply that is currently available, driving prices up again (2). Therefore, for my future trades in corn, I will be looking at this window between $7 and $8 to determine the effect of demand on prices, and make a trade accordingly.

1. http://www.thecropsite.com/news/12295/cme-corn-futures-closed-lower-thursday
2. http://online.wsj.com/article/DN-CO-20121025-017867.html

This week I went short 1 contract each of December Corn and Wheat and realized total gains of $889 ($237 on Corn and $662 on Wheat). I also entered into the market for only 1 day (on Friday) because I was not sure whether the bugs in TradeSim had been resolved. To be cautious, I decided to trade fewer contracts for a shorter period of time.

Prices had been declining for corn in the latter part of the week due to an appreciating US dollar. Although corn prices have risen dramatically since the news of the drought, the sources I consulted pointed to the fact the current higher price levels are “rationing demand” (1) and the low export sales this week (slower experts to China and Japan in particular) are leading to a downward trend in prices. This view was supported by technical analysis done by other experts (1) as well so I decided to go short on Corn for Friday. This was a good decision because prices did in fact drop as expected.

[price in:       742.50;        today’s price:  737.75;        committed:      $1080.00;        gain/loss:      $237.50]

Wheat prices also declined in the later part of the week, due again to a higher US dollar. I expected that since wheat and corn are substitutes as animal feed for which reason their prices generally move in tandem, wheat prices could also be expected to decline following lower corn prices. Wheat price did in fact fall on Friday due to pressure from lower corn prices.

[price in: 877.00;        friday’s price:  863.75;         committed:      $2025.00;         gain/loss:      $662.50]

1. http://www.thecropsite.com/news/12295/cme-corn-futures-closed-lower-thursday