FUNDAMENTAL, LIMITED-RISK &
 INVERTED-MARKET SPREADS


 

FUNDAMENTAL SPREADS

 

The type of research and analysis required to evaluate the potential of fundamentally based spreads is similar to that used in evaluating a net long or short position in a market. In a spread, however, you must also analyze the economic forces affecting the price relationship of the two contracts to determine whether the spread is expected to narrow or widen.

 

You will find the following crop year dates of these commodities useful information in preparing a fundamental analysis:

 


Crop Months of Mayor U.S. Field Crops

 

The statistical crop year for sugar on a world basis is considered to be September 1 – August 31, but the United States’ sugar import quota program is figured on a calendar year basis.

 

Some additional spread possibilities include:

 

Long May wheat / short July wheat

Long July soybeans / short September soybeans

Long March wheat / short March corn

Long March cocoa / short December cocoa

Long December wheat / short December corn

Long October cotton / short December cotton

 

 

LIMITED-RISK SPREADS

 

As discussed above, in non-perishable commodities the maximum premium that distant months may sell over near months for any length of time is limited to carrying charges. If the distant month sells at a premium reflecting nearly full carrying costs for the time between the two delivery months in the spread, the only real risk is a change in the interest rates or storage costs. The spread does not have any room to widen; in contrast, there is theoretically no limit to the premium that the nearby delivery can command over the more distant contracts. In a carrying-charge market, a bull spread (long the nearby, short the deferred) is advisable. In contrast, a bear spread (short the nearby, long the deferred) has little profit potential – limited to the difference between the spread at the time of entry and full carrying-charges – and losses can be unlimited.

 

INVERTED-MARKET SPREADS

 

As previously discussed, futures markets are sometimes inverted, with the far months selling at discounts to the nearby months. In such cases you can still profit by an intramarket spread if you can correctly judge how the price difference between the months will change. If in such a market, for example, you expect the inversion to become smaller, you sell the nearer month and buy the more distant month. On the other hand, to profit when the discount on the far month over the nearby is expected to increase, you buy the near and sell the more distant future.