How can we make a profit when wheat prices are falling and meat prices are rising?

Arbitrage trading

Today we would like to bring to your attention another Personal Composite Instrument (PCI)realized in trading terminal NetTradeX. Let's use trading instruments from the Commodities section this time. Let's take two agricultural futures: frozen beef and wheat. Let's create a PCI of the following form: Wheat/F-cattle. That means we will have wheat in the base part and frozen beef in the quoted part. Let's look at the main trends in supply and demand dynamics for both products.

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Wheat: stable demand for the future

According to the forecast of the Food and Agriculture Organization of the United Nations (FAO), global cereal consumption in the 2013/14 season will increase The increase is expected to be 4% or 92 million tons compared to the 2012/13 season and will amount to 2,415 million tons. The main increase is expected to occur at the expense of coarse grain. Its consumption will increase by 8% or 52 million tons to 708 million tons. Food consumption of cereals will be 1,094 million tons. This is only 1.7% more than last season. The bulk of even this modest increase will be at the expense of rice. Food consumption of wheat will be almost unchanged.

As can be seen from the presented graph, world wheat production grew steadily thanks to higher yields and modern farming techniques. It has increased 3.5 times since the early 1960s. The agricultural area under this crop was at its maximum in 1981 and has been gradually declining since then. In the last five years, growth in world wheat production has stalled at 700 million tons, which is a little less than a third of total grain production in the world. In our opinion, this is due to the stabilization of wheat consumption in developed countries at about 80 kg per person per year.

According to the FAO forecast, the volume of global trade in grains in the 2013/14 season will increase by 4% or 12 million tons compared to the previous 2012/13 season and will amount to 321.4 million tons. This may be due to an increase in exports from the European Union and Canada. Growth in world wheat trade will be 2.6% less, at 143.5 million tonnes. Global trade in coarse grains is expected to increase by 5.5% to 139.5 million tons. This is a new all-time record.

We believe that increasing the share of feed wheat in its total production will contribute to increasing the production of cattle meat (KRS).

The growth in the volume of world exports of wheat in monetary terms noticeably outpaces the indicators in physical terms. This is due to the growth of prices.

The U.S. Department of Agriculture (USDA), in its 2023 Agricultural Outlook, expects global wheat trade to increase by 19% or 28 million tons to 177.5 million tons from 2014/15 through 2023/24 seasons. The main consumers will be developing countries in Africa and Southeast Asia, the Middle East, India and Pakistan. The main suppliers (60%) of wheat to the world market are the United States, Canada, Australia, the European Union and Argentina. Note that in the next 10 years, USDA does not expect a significant decline in world wheat prices.

The Organization for Economic Cooperation and Development (OECD) and the FAO presented their Agricultural forecast for 2013-2022. It expects world wheat production to increase by 12.5% by 2022 to 784.5 million tons. The volume of world trade will increase by 11.4%. The OECD-FAO predicts that world wheat prices in 2022 will be 9% lower than in 2013.

Here we would like to point out that When using PCI, it is not necessary to strictly anticipate the price of the assets taken in the future. It is enough to identify trends in the dynamics of the two assets relative to each other. The overall movement of the market is not so important. Based on long-term reviews of wheat, we conclude that it will be in stable demand in the future. A significant increase in global wheat production is not expected. Regarding the main trends of the current year, we would like to note that due to the extremely cold winter in the USA, the winter wheat crop is expected to decrease to 30% for some varieties. This may cause a noticeable increase in prices.

Beef (F-cattle): a price correction cannot be ruled out

About 67 million tons of cattle meat could be produced worldwide this year. World beef production is noticeably inferior to wheat. It has only increased 2.3 times since the early '60s. We believe this was due to the U.S., where the increase from 1961 to 2013 was only about 50%. Much of the pasture has been converted to growing crops for biofuel production. As a result, there were 89.3 million cattle in the U.S. at the beginning of last year. That's minimum number since 1952.

The main world producers and exporters of beef are Canada, Australia, Brazil, Mexico and Argentina. The main consumers and importers are China, Japan, South Korea and developing countries. Note that the United States, Japan and China have recently reduced restrictions on imports of beef into their countries. This may contribute to increasing the profitability of agricultural producers from the European Union and Australia. The U.S. is one of the world's largest beef producers. Despite this, the country has long been a net importer.

As can be seen from the graph, the volume of world exports in physical terms lags far behind exports in monetary terms. As in the case of wheat, this is due to rising prices. Since the early 1960s, exports of wheat in monetary terms have increased 18.5 times, beef - 15 times. In physical terms, wheat exports have increased 3.9 times, and beef exports have increased by only 50%. We believe that The rise in meat prices in recent years has been too strong and we do not rule it out corrected by down. According to OECD-FAO forecasts, by 2022 the volume of world exports and production of beef will increase by 14%. This is more than the corresponding figures for wheat.

Trading on the wheat and beef spread

Let's compare the consumption of wheat and beef. We took North America as an example of developed countries. Wheat consumption there peaked in 1995 at 95 kg per year. Since then it has declined by 14%. The difference between wheat consumption in North America and the rest of the world is now 23.6%, while beef is eaten in North America at nearly four times the world average. We believe that beef consumption will grow at the expense of demand from developing countriesBut now the high cost is preventing this. In addition, all is not well in North America either.

Due to rising cattle prices, annual consumption of cattle meat in 2014 is projected to fall to the level of the 1970s per capita. We do not rule out the possibility that this could cause discontent among the U.S. population and, as a consequence, Beef price drop. In the U.S., McDonalds restaurant chain sales in December 2013 decreased by 1.4% compared to December 2012, the first time since the crisis year of 2008.

The cost of wheat may rise due to its more active use as fodder in livestock and poultry production. One cow needs 4-6 kg of grain per day in the fattening period. It should be taken into account that more than 60% in fodder grain in the world is corn, as it is about a third cheaper than wheat and is used in bull fattening. At the same time, the share of compound feed ranges from 20% to 45% of the total energy content of the cattle diet. The share of wheat in mixed fodder of cows and calves in the stable period is very significant and reaches 30%. In Russia and other countries where corn does not grow, the share of wheat in cattle feed reaches 40%.

Recently, beef prices have risen sharply and wheat prices have fallen. In our opinion, this may encourage farmers to spend more and more of their wheat crop on cattle feed. Then the cost of grain will begin to increase and meat will begin to decrease.

Build weekly wheat chart (Wheat) in the NetTradeX trading terminal. Let's assume that its value has approached the lower limit of the channel.

Now let's build weekly schedule of frozen beef.

Assume that beef prices have reached the upper limit of the trading range on the weekly chart.

Now let's build personal composite tool wheat/beef.

In essence, this is the idea behind PCI Wheat/F-cattle. We expect that futures for frozen beef will be slower in price and faster in price compared to wheat futures. Under these conditions. Wheat/F-cattle composite instrument will turn upward and be in a rising trend. To get trading signals on his chart, you should use the methods of technical analysis.