Down trending Market
The Wheat market is definitely in a downtrend right now, and
if we look at the 6 month chart we stand at $7.42 a bushel as of the close of
last week. If we break $7.20 a bushel, then there are going to be a lot of sell
stops positioned to sell Wheat lower to the next level of support at $6.84 a
bushel. If this level fails to hold look out below as $5.85 is the next major
level of support on the five-year weekly continuation chart and should hold.
Support Levels
Now Wheat should bounce around the $7.00 a bushel area,
probably first busting through it, and then spiking above it as price tries to
find its equilibrium after establishing a new low. And obviously $6.00 a bushel
provides a level of support being both a round number, which is heavily guarded,
and near the two year low in the contract. This is another area where I would
expect Wheat to first push below $6.00 a bushel, then spike above it several
times before making a strong run at the $5.85 level.
The Death Cross
Interestingly we had the proverbial “Death Cross” in early
January where the 50-day moving average crossed below the 200-day moving
average which actually signaled a buy to many traders initially as price spiked
to retest the $8.00 a bushel level, but soon faded and has been putting in
lower highs and lower lows ever since.
I often see that where a bearish technical signal is faded
by buyers thinking selling and bearish sentiment is overdone. This is why I am
often cautious when the media starts discussing Death Crosses, this often offers
up contra-trend trading opportunities in the market.
However, ultimately the Death Cross in Wheat proved to be prophetic
as Wheat has confirmed that it is still in a bearish downtrend as each price
spike is met with many sellers waiting patiently to enter in the direction of
the trend, and eventually pushing the contract lower with each bearish thrust
of price momentum.
Trading Philosophy
Now I will talk a little about the psychology and underlying
trading philosophy that plays out in the price discovery process.
Wheat is a commodity, and commodities trend, and there are two
main types of traders in these markets. 1) The traders who are looking at value
in relation to historical Wheat prices the last two years, and they are looking
for areas to buy and go long. 2) Then there are the traders who look at the
market in the exact opposite manner. They see Wheat at these lower levels as a
sign of weakness, and they are looking to sell new lows.
It is a battle that plays out in price in many instruments,
and one side eventually wins, forcing the other side to cover their position.
There isn`t a rigid definition on why one side will always win because at some
point it is definitely wrong to sell a bottom and buy a top, just look at the
historical tops and bottoms on the charts provided to ascertain that conclusion.
Some buyers and sellers bought the very top and sold the very bottom of the
Wheat market the last five years.
Prudent Money Management
This is where proper money management techniques with
strategically placed stops come into play. The ability to understand that
momentum has shifted, the trade is invalidated, and price is going the other
direction. Furthermore, it is underestimated the importance of being able to be
flexible to get on the train going in the opposite direction of the original
price assumption.
Invalidation Signals
Price tells them where the trade is invalidated; it
literally forces the other side to cover at key technical reversals, which is
your sign to be out of a trade if large numbers of positions are going to be
forced out automatically via stops at key technical invalidation levels.
Always look for technical areas where other traders would
think the trade is invalidated, and place their stops. Sure there are stop runs
and trading noise; and this is where feel comes into trading and strategically
placing stops to avoid the creative stop runs and noise, and be on the right
side of the price action to come in the direction of the trend.
And the winner is…
So there will be a lot of battles to come in the Wheat
market between these two trading camps the value buyers and the trend sellers,
and it is your job to determine who is going to ultimately win out, and the
charts and technical analysis is your tool to help you in this quest.
The Fundamentals
Sure the fundamentals are underlying these moves, and with
high prices over most of the last 4 years, soaring farm land prices, and
wealthy and fat farmers, things have been good in the agriculture space, and
this probably plays out in some bumper crops if the weather cooperates. This is
economic theory playing out putting downward pressure on Wheat prices.
Be careful of “Value Traps”!
So at what price does the market determine that Wheat prices
are a value? This should be taken into an analysis along with the fact that
commodities trend, and they gain momentum runs, and areas where buyers and
sellers have thought represented real value, failed to offer that for these
investors, and their having to cover their ‘value investments’ provided
additional fuel in the direction of the trend, i.e., prices can go in a
trending direction far more than any investor rationally thinks is possible.
Just look at the chart and that $13.00 a bushel Wheat price
was a pain induced short covering rally that investors who came in ‘value
shorting’ at $10.00, $11.00 and $12.00 a bushel thought was unreachable, i.e.,
or they would have waited until $13.00 to come in and short. So price can
always go far lower or higher than one would think ahead of time in any market,
but in commodities especially be careful not to make price assumptions.
Blood in the water
In summary, if Wheat gains momentum to the downside due to
larger than expected bumper Wheat crops, and some key technical levels are
broken, the trend traders will be piling on, and the value investors will be
testing their pain threshold.
Additional sharks will appear as the blood in the water of
lower prices in a down trending market brings even more attention to the Wheat
market, and before you know it outsiders who never thought of trading Wheat are
pushing the contract lower causing more pain; that is how extreme levels in
price get established in a forced liquidation process.
If the Wheat market gains some more downward momentum,
traders will see just how far they can push it lower. One has to be careful in
picking bottoms because of this very fact, price invariably goes so much lower
than you think is rationally possible.
Bottom Picking & Rewards
But as always the flip side is that if you pick the near
term bottom, then you can get some exceptionally profitable bargains because
price was pushed way to low or way to high. It helps if a big buyer or seller
steps in right after the levels that you decide to enter the trade, as then you
can comfortably move your stop up to guarantee a riskless free-roll on a trade.
These are the holy grail moments in trading: you pick a top
or bottom and a big player agrees with your market assumption; your trade is instantly
profitable, highly protected, you experience no heat, and your only concern is
where to place the stop to protect your profit but remain in the trade for the
potential of a sustained trend in the new direction of the market.
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