By: Matthew Bradbard

MB Wealth Corp. is not responsible and does not endorse anything outside of the content of this article authored by Matthew Bradbard; President of MB Wealth.

In the current Wild West trading environment, where 5% price swings have become commonplace, avoiding margin calls is a bigger challenge now than what I’ve ever seen in my career. Traders can take all the necessary steps and still there is still no assurance that a margin call can be avoided, here are some suggestions that may aid in deterring future margin calls when trading commodities.

Let me start by explaining exactly what a margin call is; a call from a clearinghouse to a clearing member, or from a broker or firm to a customer, to bring margin deposits up to a required minimum level. When the balance of the account drops below the maintenance margin level a margin call is issued. Once a margin call is issued the party receiving the call generally has 48-72 hours to bring their account balance back above the initial maintenance amount. If you wish not to satisfy the margin call the alternative is liquidating the position and taking the loss.

Moving onto margin; the amount of money deposited by both buyers and sellers of futures contracts and by sellers of options contracts to ensure performance of the terms of the contract. The margin in commodities is not a down payment, as in securities, but rather a performance bond. For every commodity there is an initial margin and a maintenance margin determined by the exchange that the underlying commodity trades on. For example, when trading 30-yr bond futures, margins are set by the CME Group, while when trading cotton futures margins are set by ICE.

The leverage involved when trading commodities can at times be massive; by definition leverage is the ability to control large dollar amounts of a commodity with a comparatively small amount of capital. Leverage is a double-edged sword working as your best friend when properly positioned and your worst enemy when positioned incorrectly. Because the leverage at times can appear excessive, a possible solution would be to not over leverage one’s trading account. For example if the initial margin amount for one Crude oil futures contract is $5,000 then in your mind you should allocate $10,000 to mitigate extreme swings in you trading account. When trading commodities be selective and don’t think that all the money in your trading account needs to be allocated at all times. I try to trade a very aggressive asset class conservatively…which is easier said then done.

Other possible solutions include, but are not limited to: trading mini-futures contracts, decreasing one’s trading size, purchasing options, or a trading strategy that utilizes a combination of options and futures. Stop loss orders should also be incorporated whether they are entered when establishing a position or as a trader using mental stop loss orders, my suggestion is to always have some sort of exit strategy in case the trade goes awry. Stop orders are defined as an order that becomes a market order when the futures contract reaches a particular price level. A sell stop is placed below the market; a buy stop is placed above the market. Though stop loss orders can mitigate loss, there is no guarantee that the precise stop levels will be the price executed at as occasionally the market conditions do not allow. For example, if a market were to gap higher or lower or a lock limit move in the underlying commodity occurs. One such example several years ago that I clearly remember was a “mad cow” scare had cattle futures lock limit for several sessions. What this means is parties in the trade cannot get out of their positions regardless of whether they are short or long.

Greed and emotions are involved in any facet of trading and while trying to remove these conditions is nearly impossible, a large amount of successful traders do their best by exhibiting discipline. By that I mean not getting married to any position, cutting losses and not looking for homeruns on every transaction. The key in the long run is to be consistent and treat trading like a career as opposed to a “hobby.” Margin calls are a part of trading commodities, however to avoid this asset class all together as opposed to taking cautionary steps before initiating positions in hopes of avoiding a margin call would not be my suggestion. Remember we are human and make mistakes; the key is learning from these mishaps and to not repeat them. The current commodity market, albeit volatile, provides some of the best opportunities that I believe we may see in our lifetime.

The hope in this article was not to deter novice commodity traders but rather to inform them on what margin calls are and to be cognizant that while it is not always pleasant trading, understand that because you get a margin call it is not the end of the world. Best of luck trading!!

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial. Past performance is no guarantee of future trading results.

Definition/theory:

Risk of loss in swing trading typically increases in a trading range or sideways market as opposed to in a bull market or bear market. A market that is clearly moving in a specific direction, albeit up or down is more appropriate for swing trades. A sideways or non trending market increases the potential for whipsaws or false breakouts. In trending markets (either a bear market or a bull market), momentum may carry the traded instrument’s price for a much longer time in one direction only, making swing trading strategies that do not incorporate this trending less profitable than trend following strategies.

1.)    Go with the trend.

2.)    When getting long buy when a market is oversold & when getting short sell when a market is overbought.

3.)    A trade may have more validity if the daily, weekly and monthly charts are all saying the same thing.

4.)    Have a target if the trade moves as you presume and also an exit strategy if the trade goes awry.

5.)    Try to ignore the noise.

6.)    Don’t forget to manage the trade

In addition to the general guidelines above, I believe implementing a specific set of trading guidelines is required to be successful. For instance, we are more likely to take a trade if both the fundamentals and technicals indicate that prices are too low or too high. However, if the fundamentals do not justify a move higher yet the prices are making fresh highs day after day and the technicals indicate there may be more upside, we would still consider taking the trade.  We may simply suggest a smaller position or perhaps an option as opposed to a futures trade. There are numerous technical indicators used by traders and everyone has their favorites. The main indicators that I use for my analyses include open interest, volume, moving averages, stochastic and Fibonacci retracement levels. That is not to say we never inspect more exotic indicators such as Ichimoku clouds or the McClellan oscillators, but overanalyzing markets is often ineffective. 

The goal of adhering to strict trading rules is to remove the subjective decision-making from swing trading. We suggest exercising caution when trading correlated asset classes or even when trading correlated commodities. In addition to an awareness of correlations and prudent money management, also be cognizant about the “risk to reward” dynamic when putting on your trades. A trade that requires risking $5,000 and offers a profit potential of $2,500 should not be entered.

As with all financial instruments, risk of loss trading commodity futures and options can be considerable. This risk can best be mitigated by using a trading strategy that is back tested on the particular equity, index, or commodity and continues to prove its worth with successful trades.

 Corn:  

click on the chart to view

 Since corn has bottomed out in early September with prices reaching a 3 ½ year low, MB Wealth has had a bullish bias and wants clients to be long via futures or options. After bottoming out, the price has resumed its uptrend and on a closing basis we’ve climbed higher without violating the support line over the last 3 months for any extended period. For further affirmation, once prices bounced off support, one could wait for movement above the 20 day moving average. The stochastic indicates whether the market is overbought or oversold and should be watched closely. This helps to time entry and exit and to place stops. Not only did the technicals suggest long exposure, but with wet weather, cooler temperatures and the slowest harvest in over 2 decades, the fundamentals also suggest higher prices are achievable.  

click on the chart to view

click on chart to view it

On a longer term chart, we experienced over a 61.8% Fibonacci retracement at the end of 2008.  This move lowered the price of silver to roughly to $10/ounce. For chartists, this would indicate an entry for those looking to get long.

click on chart to view

For the last 6 months the price of silver has been largely contained in a $2.00 – $3.00 trading range with a rising slope. This suggests that those with a bullish bias, including MB Wealth and their clients, should look to buy near the lower line and take profits near the upper line. Traders who do not believe that silver prices are moving higher or who want to do a counter trend trade would sell near the upper line and look to cover near the lower line. The stochastic shown at the bottom of the chart could help with entry, exit and stop placement. Finally, fundamental analysis of the historical relationship between gold and silver is also bullish for silver not to mention continued US dollar weakness and the inverse correlation.  

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial. Past performance is no guarantee of future trading results.

By: Matthew Bradbard

Last night I took a trip down to Miami to visit with Jim Rogers at a book signing for his most recent book entitled: “A Gift to My Children a Father’s Lesson for Life and Investing.” After speaking briefly about his 3 year tour around the globe he spoke a little about the aforementioned book and took questions from the audience.

These are the general themes I took away in no particular order:

Jim said numerous times he is a terrible market timer, he went as far to say he’s not the worst in the room but the worst in the world…very humble.

While Jim’s primary residence is in Singapore he also has a dwelling here in Florida, what I found interesting is that he rents and does not own his home here in Florida. The fact that he sold a lavish residence in New York before the real estate crash and rents here in Florida may be that his timing is better in real estate.

Though he waited later than most, he stated one of his proudest accomplishments was having children. For one of the most successful investors in our time that speaks volumes about the father he most likely is.

Not only did he move his family to Singapore but his two daughters will be fluent in Mandarin and Spanish.

He did not go into specifics about his bank accounts but his two daughters have Swiss bank accounts, not accounts denominated in US dollars. What does that say about his feeling on the US dollar?

He has no short exposure in US Treasuries, currently he thinks the multi-decade long bull market in this complex is over and he believed he would be taking a hefty short position at some time in the future.

One of the questions from the audience pertained to getting an MBA. Jim’s response in so many words was that it would be a complete waist of money and time. He suggested traveling around the world would be a more valuable experience. He went as far to say that sitting in a hot tub in Boston one could learn more than going to some of the prestigious universities there.

Jim had little good to say about the current choices Central banks are making and implied serious inflation is all but inevitable. He expects rates to be much higher but gave little time frame. He said jokingly we may run out of trees if the printing presses continue to run at their current pace.

The only real estate advice I recall him saying is buying a farm in the Mid-west to take advantage of the boom he expects in Commodity prices.

Bull cycles in commodities in the past have lasted between 18 and 20 years. In his view we have another decade or so in the current cycle.

As a commodity trader, what I found most interesting was that in his jacket pocket he had a gold and silver coin and a sugar packet. This was probably to prove a point but it really hit home with me and other audience members.

You draw your own conclusions.

Please click here to view the historical pricing

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial.  Past performance is no guarantee of future trading results.

June 4, 2009

By: Matthew Bradbard

The Option Greeks 

When trading commodities there are 2 basic ways to trade: futures or options. Depending on the portfolio size, the risk tolerance and ultimate goals we will suggest assorted strategies to take advantage of the same anticipated move in an underlying commodity. That may mean an individual speculating on gold moving higher if they foresee inflation, a farmer buying put options in agriculture as a hedge or perhaps a combination of futures and options depending on the exact plan. Trading futures ultimately means one is trading on margin which some are not comfortable, with while trading options may offer an alternative without the sleepless nights. When purchasing options one’s risk is limited to the premium paid plus any fees for the transaction. When writing or granting options the risk becomes greater, without going into intricate details, it may be useful to be more familiar with the terms below when trading commodity options. Find below an explanation of the “option Greeks.” It is important for an active options trader to at least become familiar with these characteristics since he/she may need to make quick decisions about trading strategies and risk management on the fly.

Delta

Delta is the amount by which the option changes compared to the underlying commodity. It is a measure of the probability that an option will expire in-the-money. Call deltas can be interpreted as the probability that the option will finish in-the-money. Put deltas can be interpreted as -1 times the probability that the option will finish in-the-money. An at-the-money option, which has a delta of approximately 0.5, has roughly a 50/50 chance of ending up “in-the-money”. For example, if an at-the-money sugar call option has a delta of 0.5, and if sugar makes a 100 tick move higher, the premium on the option will increase approximately by 50 ticks (0.5 x 100 = 50), or $560 (each tick in premium is worth $11.20).

An explanation of delta values is below:

Call options: 0 to 1        Put options: -1 to 0

In the money options: Delta approaches 1 (call: +1, put: -1)

At the money options: Delta is about 0.5 (call: +0.5, put: -0.5)

Deep out of the money options: Delta approaches 0

Long calls have a positive delta: You want the market to go up

Short calls have a negative delta: You want the market to go down

Long puts have a negative delta: You want the market to go down

Short puts have a positive delta: You want the market to go up

Gamma

Gamma, measures the rate of change of delta. When call options are deep out-of-the-money, they generally have a small delta. This is because changes in the underlying commodity bring about only minute changes in the price of the option. But as the call option gets closer to the money, resulting from a continued rise in the price of the underlying commodity, the delta gets larger.

The gamma of a long option position (both calls and puts) is always positive. At-the-money options have the largest gamma. The further an option goes “in-the-money” or, “out-of-the-money” will affect the gamma. If you are long gamma you expect the underlying to make large moves. Traders with long positions expect positive gamma. If you are short gamma you expect the underlying to remain relatively inactive. Traders with short positions expect negative gamma. Gamma is a useful indication of the risk associated with a futures position. A large gamma number, whether positive or negative indicates a high degree of risk and a low gamma number indicates a low degree of risk.

Theta

Theta is defined as the change in the price of an option for a 1 day decrease in the time left before expiration. At-the-money options have the greatest time value and the greatest rate of time decay (theta). The further an option goes “in-the-money” or “out-of-the-money”, will affect the theta. As volatility falls, the time value declines and hence theta will also decline. Simply put Theta is the rate at which an option loses its value as each day passes. The inherent assumption is that the options are a decaying asset. The way I explain this is like a melting ice cube on a warm summer day. Long options have negative theta. Short options have positive theta. As time passes, the theta of at-the-money options increases, the theta of deep-in-the-money and out-of-the-money options decreases.

Theta has the exact opposite characteristics of gamma. Thus the size of a gamma position correlates to the size of the theta position. A large positive gamma position goes in hand with a large negative theta position, while a large negative gamma position goes hand in hand with a large positive theta position. What this means is that every option position is a tradeoff between market movement and time decay.

Vega

Vega is the change in the value of an option for a 1 percentage point increase in implied volatility of the underlying commodities price. Implied volatility is measured as the annualized standard deviation of a commodity’s daily price changes. The Vega of a long option position (calls and puts) is always positive.  At-the-money options have the greatest Vega. The further an option goes “in-the-money” or “out-of-the-money”, the smaller the Vega. As time passes, Vega decreases. Time amplifies the effect of volatility changes. As a result, Vega is greater for longer dated options than for shorter dated options. Simply put Vega is the option’s change in theoretical value with a change in volatility. Most options have a positive Vega because they gain value with rising volatility and lose with falling volatility. Vega of most options decline as time decreases and you get closer to expiration. Vega tells you approximately how much an option price will increase or decrease given an increase or decrease in the level of implied volatility.

In conclusion it would be beneficial to be at least familiar with these terms when trading options. While it is not a necessity to be an expert we believe knowledge is power and it helps to know when you are making or loosing money and WHY?

For specific strategies contact us via e-mail www.mbwealth.com or telephone at (888) 920-9997 / 954-929-9997. For the most part investors reading this analysis want to be more hands on, however we suggest taking a look at our managed futures section and consider diversifying further via CTA’s with proven track records:   MB Wealth Managed Futures

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial. Before trading MB Wealth recommends that you should carefully consider your financial position to determine if commodity trading is appropriate for you. All funds committed should be purely risk capital. Past performance is no guarantee of future trading results. There are no guarantees of market outcome stated, everything stated above are our opinions. Calculations of profit and loss have not factored in commissions and fees.

In the last few weeks I have received several inquiries from existing and prospective clients. They are curious to know if I look at the commitment of traders (COT) report and if I view it as a useful resource for commodities trading. The answers are yes and yes. There are so many useless reports that are issued, however the COT is an excellent source of information. I have chosen to write a brief explanation hoping that some of the questions these individuals had may be answered. As well if there is a topic in commodities that you are having trouble grasping, we take suggestions into account when choosing our topics.

The Commitments of Traders (COT) report provides a breakdown of open interest for commodity markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC.

Reports are available in both a short and long format. The short report shows open interest separately by reportable and non-reportable positions. For reportable positions, additional data is provided for commercial and non-commercial holdings, spreading, changes from the previous report, and percentage of open interest by category, and number of traders. The long report, in addition to the information in the short report, groups the data by crop year, where appropriate, and shows the concentration of positions held by the largest 4 and 8 traders. The supplemental reports show aggregate futures and options positions of non-commercial, commercial, and index traders in 12 selected agricultural commodities.

The COT needs to be inspected every week, but traders need to be careful not to read too much into the numbers or over analyze. This report essentially tells traders how others are positioned and the why is left to interpretation. It’s good to know what everyone else is trading in the markets. It’s kind of like sitting at the casino and every time, just before it’s your turn, the other players have to turn and show you their hand. Given that information do you think you would be a better poker player? Sure, you may not know what the deck holds, how many decks are in the shoe or what the other players are going to do on their turn, but at least you have an idea of what hand they hold. The COT provides useful information to traders and can be valuable, helping to formulate a successful trading plan. Recognize the COT is worth taking a look at every week, but that‘s not to say that valuable information will be in the report. See below an explanation on the COT.

Making sense of the COT:

Commercial - Describes an entity involved in the production, processing, or merchandising of a commodity, using futures contracts primarily for hedging.

Concentration Ratios (long form only) – The report shows the percents of open interest held by the largest 4 and 8 reportable traders, without regard to whether they are classified as commercial or non-commercial. The concentration ratios are shown with trader positions computed on a gross long and gross short basis and on a net long or net short basis.

Long report - Includes all of the information on the short report, along with the concentration of positions held by the largest traders.

Non-commercial (speculators) - Traders, such as individual traders, hedge funds & large institutions, who use futures market for speculative purposes and meet the reportable requirements set forth by the CFTC.

Non-reportable positions - The long and short open interest shown as “non-reportable positions” is derived by subtracting total long and short “reportable positions” from the total open interest.

Number of Traders – To determine the total number of reportable traders in a market, a trader is counted only once whether or not the trader appears in more than one category (non-commercial traders may be long or short only and may be spreading, commercial traders may be long and short). To determine the number of traders in each category however, a trader is counted in each category in which the trader holds a position. Therefore, the sum of the number of traders in each category will often exceed the number of traders in that market.

Open interest - Open interest is the total of all futures and/or option contracts entered into and not yet offset by a transaction, by delivery, by exercise, etc. The aggregate of all long open interest is equal to the aggregate of all short open interest.

Percent of Open Interest – Percentages are calculated against the total open interest for the futures only report and against the total futures equivalent open interest for the options and futures combined report.

Reportable positions – The futures and option positions that are held above specific reporting levels set by CFTC regulations.

Short Report - Shows open interest separately by reportable & non-reportable positions.

Spreading - For the futures only report, spreading measures the extent to which each non-commercial trader holds equal long and short futures positions. For the options and futures combined report, spreading measures the extent to which each non-commercial trader holds equal combined long and combined short positions.

Supplemental Report – Based on the information contained in the report of futures and options combined in the short format, the supplemental report shows an additional category of “Index traders”. These traders are drawn from the non-commercial and commercial categories. The noncommercial category includes positions of managed funds, pension funds, and other investors that are generally seeking exposure to a broad index of commodity prices as an asset class in an unleveraged and passively managed manner. The commercial category includes positions for entities whose trading predominantly reflects hedging of otc transactions involving commodity indices; for example, a swap dealer holding long futures positions to hedge a short commodity index exposure opposite institutional traders, such as pension funds.

Using the COT for trade purposes:

You may or may not have heard about the COT report; it has been around for many years. This report should be used as a tool and implemented into your trading strategy but by no means should the COT be the only resource traders use to make trading decisions. Once in a while when categories get to extremes the COT may aid in your decisions.

The basic significance of the COT is that it provides a line up of who the players are in the futures game: commercials, large speculators, and small speculators. It also shows what position they have (buying or selling).

I believe, with some experience, the COT can be used by the individual trader. The key is to see if anything jumps out as an abnormality. Keep it simple and apply the statistics for what they are, nothing more nothing less. Look for a significant increase/decrease in open interest. Compare analyses with the individual charts of the commodities and see if they are telling the same story. What if anything does a change in open interest or volume tell you? What is the overall trend in the underlying commodity? Is there a seasonal tendency or any historical data that indicates an impending move?

The main thing I want traders to take away from this is they generally want to be positioned on the same side as the “big boys” that have the ability to move the market and ride their coattails. Commodity traders that invest and trade side by side with the largest commercial interests in the world, in my opinion, increase the odds of being successful. That is not to say that trading against the commercials or having a contrary opinion is not sometimes prudent because swimming against the tide can often work but generally the reality is that when sitting at the table the man with the deepest pockets usually wins. There is no secret path to riches in commodities or any market for that matter but the COT should help in making sense of commodities trading and assist in answering the who, what, why and when.

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial. Before trading MB Wealth recommends that you should carefully consider your financial position to determine if commodity trading is appropriate for you. All funds committed should be purely risk capital. Past performance is no guarantee of future trading results. There are no guarantees of market outcome stated, everything stated above are our opinions. Calculations of profit and loss have not factored in commissions and fees.

1. Excesses in one direction will lead to an opposite excess in the other direction.  They always do. Until everyone fears the worst, and capitulates, markets will exceed expectations. Then, in the correction, will exceed expectations again.

2. Markets tend to return to the mean over time.  This is especially evident (visually) when moving averages are applied to price charts, short and long–term alike.

3. There are no new eras — excesses are never permanent.  Just look at a price chart.

4. Exponential rapidly rising or falling markets usually go further than you think, but they do not correct by going sideways. Markets correct by going in the opposite direction, falling sharply after sustained, broad rallies, and rallying after sustained broad weakness.  The world ebbs and the world flows; it has always been thus, and shall always be thus.

5. The public buys the most at the top and the least at the bottom.  Of course they do; they always have and they always shall. The public buys when euphoria reigns, and it sells when depressed years later.

6. Fear and greed are stronger than long-term resolve.  We are human beings dealing with rational and irrational markets; to believe that “fear” and “greed” can ever be lost is naive for they are the most fundamental of human traits.

7. Markets are strongest when they are broad and weakest when they narrow to a handful of blue chip names.  Just as volume must follow the trend, so too must good markets have broad support and weak markets have broad weakness…

8. Bear markets have three stages — sharp down —reflexive rebound —a drawn-out fundamental downtrend.  This really is how this bear market shall end; not with a hoped for “V” bottom, but with a great washing-out… a capitulation… and then months, or even years, of base building.

9. When all the experts and forecasts agree –something else is going to happen…. or as we like to say, “When they are yellin’, you should be sellin,’ and when they are cryin,’ you should be buyin.’ ”

10. Markets can not be predicted…. The market WILL dupe you if you try to predict prices! Ask yourself everyday, “how can this market move against my position(s)” and ensure you can take the risk or do something about it.

“After spending many years in Wall Street, and after making and losing millions of dollars, I want to tell you this: it never was my thinking that made the big money for me. It was always my sitting. Got that? My sitting tight. It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and lots of early bears in bear markets. I have known many men who were right at exactly the right time, and began buying or selling when prices were at the very level which should show the greatest profit. And their experience invariably matched mine: that is, they made no real money out of it. Men who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after a market operator has firmly grasped this that he can make big money. It is literally true that millions come easier to a trader after he knows how to trade than hundreds did in the days of ignorance.”

Jesse Livemore

This excerpt was forwarded to me by a prospective client and I feel it is relevant in the current environment. Investors possessing the ability to see beyond the daily price fluctuations and approach commodities with a more intermediate longer-term basis could be rewarded by acquiring what we view to be at undervalued levels. Do not try to pick a bottom but rather start scaling into longs and look to catch a piece of the move that we anticipate into 2009. What commodities fit this bill? Silver, sugar, soybeans, lean hogs, natural gas, and finally the Japanese yen just to name a few.

For specific strategies contact us via e-mail http://www.mbwealth.com or telephone at (888) 920-9997 / 954-929-9997. For the most part investors reading this analysis want to be more hands on, however we suggest taking a look at our managed futures section and consider diversifying further via CTA’s with proven track records: http://www.mbwealth.com/cta/risk.html

An intracommodity spread is long one future and short another. Both have the same underlier, but they have different maturities. An intercommodity spread is a long-short position in futures on different underliers, both typically have the same maturity. Spreads can also be constructed with futures traded on different exchanges (interexchange spread). Typically this is done using futures on the same underlier, either to earn arbitrage profits or, in the case of commodity or energy underliers, to create an exposure to price spreads between two geographically separate delivery points. For speculators, spread trading offers reduced risk compared to trading outright futures. This is because the long and short futures that comprise a spread are usually correlated, so they tend to hedge one another. For this reason, exchanges generally have less strict margin requirements for futures spreads.

How can you make money trading spreads?

By playing a spread one may want the spread to widen or for the spread to narrow. With a spread, you follow the relationship, or difference between the contracts, without having to pick a market direction. When you trade an outright futures position there is only one way that you can make money. If you buy, the market must go up and if you sell, the market must go down. With a spread trade, you can make money whether the markets move higher or lower. If the side you bought goes up more than the side you sold, you make money. If the side you bought goes up and the side you sold remains even, you make money. If the side you bought does not move and the side you sold goes down, you make money. If the side you sold goes down more than the side you bought, you make money. Finally, if the side you bought goes up while the side you sold goes down, you stand to profit even more. Of course, in the above scenarios if the reverse of what is described above happens, you would lose money. As far as I know, there is no trading method that is risk free. However, spreads add flexibility and versatility to a trader’s arsenal, and generally with less risk. The key here is to find a spread that has a favorable risk/reward dynamic which should be at least 3:1.

What I like about spreads.

The exchanges recognize that spread trades have lower volatility and usually present less risk than a straight futures trade. This is reflected in lower margin requirements. Spreads do not count on a particular market to go up or down; rather, it is the price relationship between two markets that determines the success of the trade. Spreads trend and swing well; and their chart pictures respond to the standard tools of technical analysis. When you consider that spread trading opportunities include not only the commodity, but also the number of contract months available to trade, plus the potential for inter-market and inter-exchange spread trades, the possibilities are vast. Some benefits are using spreads as an alternative to using protective stops, legging in and out of spreads, and entering a spread as a defensive measure to reduce or avoid the catastrophic effects of a lock limit move against you. Seasonal and other patterns are evident in spreads and it is very satisfying to maintain and manage successful trades lasting weeks and even months at a time. (Staying power)

What I do not like about spreads.

Not all spreads are recognized by a given exchange as carrying lower risk. Hence, there may be no reduction in the margin requirements. Learning the concept of “widening” and “narrowing”. The confusion is created because when you enter a spread trade it can be done at either a positive or negative price. Additionally pricing spreads, orders and liquidity can sometimes be confusing. Pricing spreads can be difficult when doing “inter-market” or “inter-exchange” spreads. Some commodities are priced differently and have different units of measure and contract values. The absence of stops may also be a disadvantage to certain traders. A spread trade involves two futures transactions plus the commissions and fees that go with them.
The Best Spread I have seen in some time.

Long Corn / Short Wheat

Wheat has traded at a $3.00 premium to Corn twice in history (presently above $5.00); in 1974 and 2007. The average spread between wheat and corn over the last 30 years is $1.00-$1.50. With corn demand expected to expand for 08/09 and prices likely to climb to avoid a loss in planted acreage to other crops, corn needs to move to higher levels. With wheat prices currently at a record high price these prices are likely to attract a significant jump in wheat planted acreage much like corn did last year (the result corn lost $1.00 in the futures market in 60 days or a $5,000 move per contract). What is most attractive is the risk/reward dynamic which we currently view as 5:1.

By: Matthew Bradbard

It is vital to have a trading plan when investing your hard earned capital. Many of these lessons may seem elementary, but what fascinates me is talking to fellow commodity traders over the years and finding there is still a lack of discipline.

Below you will find some common disciplines that as a Commodities trader you should abide by in most instances. Ironically this list was complied from a pamphlet printed 30 years ago entitled; “How Young Millionaires Trade Commodities” and virtually all the principles still apply. Supply and demand still rule the roost in determining pricing in commodities. Over the years the dynamics have certainly changed, but what hasn’t is human behavior, and the effects of greed and fear in the trading community. That is why principles that worked 3 decades ago still apply in today’s market.

1. Use money you can afford to lose – always trade with risk capital
2. Know yourself- be disciplined, always controlling your emotions
3. Start small – do not over commit until you learn the mechanics
4. Don’t over commit - always keep excess margin in your account
5. Isolate your trading from your desire for profit – try to eliminate “hope” from your trading plan
6. Don’t form new opinions during trading hours – do not let day to day fluctuations change your overall plan
7. Take a trading break- trading everyday may cloud your judgment
8. Don’t follow the crowd- if everyone is leaning one way it is most likely the wrong way
9. Block out other opinions – do not be influenced by others once you form an opinion
10. When you’re not sure, stand aside- it is ok to be in cash and not in the market
11. Try to avoid market orders- always using market orders to buy and sell shows a lack of discipline
12. Trade the most active option month - look for where the open interest and liquidity exists
13. Trade divergence between related commodities - large divergences within the same sector generally present an opportunity
14. Don’t trade too many commodities at once – following several markets at once is difficult and usually costly
15. Trade the opening range breakout - breaking out of the opening range generally sets the tone for the direction of the coming move
16. Trade the breakout of the previous day’s range- this helps getting in and out of positions
17. Trade the breakout of the weekly range – again like the daily breakouts use breakouts as buy and sell signals
18. Trade the breakout of the monthly range – the longer time frame the more market momentum behind your trading decision
19. Build a trading pyramid – when adding to a position add fewer contracts than your base commitment
20. Never put your entire position on at one price – let the market prove you are right
21. Never add to a losing position – adding to a loser only adds to a mistake
22. Cut your losses short- admit when you are wrong, it is a part of trading
23. Let profits run – do not get out for the sake of taking a profit, have a legitimate reason why you are closing a position
24. Be impatient with losing positions- never carry a losing position for more than 2-3 days and never over a weekend
25. Learn to like losses- they are a part of the business so accept it
26. Use stops orders cautiously – place or at least know where your stop is when you enter the market
27. Get out before contract maturity – do not stay in during delivery because increased volatility
28. Ignore normal seasonal tendencies – too many people are aware/ remember you are looking for an edge
29. Trade the divergence from normal – trade against what is expected by most
30. Avoid picking tops and bottoms – do not buck the trend
31. Buy bullish news, sell the fact – buy the rumor and sell the fact(playing reports)
32. Bull markets die of overweight- pay attention to bearish news when bull markets look top heavy
33. Look for the good odds – look for trades that have a favorable risk/reward dynamic
34. Always take windfall profits- take quick profits and run
35. Learn to sell short – markets often fall faster than they rise
36. Act promptly – futures are not for procrastinators
37. Don’t reverse your position – do not make a 180 degree turn on losers
38. Don’t be a nickel and dimer- trying to squeeze that little extra out of the market can be costly
39. Know the price trend- use charts to identify trends
40. Watch for key breakouts through trend lines- use trend lines to determine breakout points and to help with order placement
41. Watch for 50% retracements of a major move – markets have tendency to retrace 50%
42. Use the half way rule when picking buy-sell spots – inside of a price channel sell the upper half and buy the lower half
43. Watch the magnitude of market change- smaller bars on charts can be early indicators of a trend reversal
44. Congestion areas mean support or resistance - when price movement slows there is indecision
45. Major moves frequently climax with a key reversal - a significant high or low can be made on trend reversals
46. Watch for head and shoulder formations- this pattern is very accurate on changes in trend
47. Watch for “M” tops and “W” bottoms - recognize these patterns they are useful and happen often
48. Trade triple tops and bottoms - incorporate this into your trading arsenal as triple tops and bottoms generally serve as solid support and resistance levels
49. Watch volume for price clues - volume up and price up buying confirmation, volume up and price down selling signal, volume decreases look to stand aside
50. Open interest may be a tip off- use open interest increases and decreases much like volume as buying and selling signals

I would suggest reading this not just once but reviewing this list frequently. As basic as many of these lessons may appear, it is the trader that sticks to his/her guns while incorporating control and restraint into their trading philosophy that will reap the most rewards. Commodity trading is not about being right all the time or hitting homeruns, it’s about those 3-4 special/unique trading opportunities that really make your year. Most of your trades will be losers and recognize that most investors in commodities loose money. Everyday investors can and do lose money trading…do you have what it takes to separate yourself from the herd?

The list above was from a 1978 booklet entitled “How Young Millionaires Trade Commodities” published by “Commodities, The magazine of Futures Trading”

Risk Disclosure: The risk of loss in trading commodity futures and options can be substantial. Before trading MB Wealth recommends that you should carefully consider your financial position to determine if commodity trading is appropriate for you. All funds committed should be purely risk capital. Past performance is no guarantee of future trading results. There are no guarantees of market outcome stated, everything stated above are our opinions. Calculations of profit and loss have not factored in commissions and fees.