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The Often Overlooked Opportunity in Futures

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These three commodities have curves you could profit from.

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Trading commodities in today's markets has been nothing short of difficult. While the first quarter was relatively stable, Q2 has been anything but, with volatility returning to markets and unpredictable behaviors becoming the norm. Commodity futures are already volatile on their own, but throw in rocky markets and that effect is amplified.

Rather than trying to make a speculative bet on day-to-day movements of commodities, investors can look to profit from backwardated futures curves. Backwardation is the process by which near month futures are more expensive than those expiring further into the future, creating a downward sloping curve for future prices over time.

Typically, investors spend their time trying to avoid contango, the opposite of backwardation, which can quickly erase value in a portfolio, but not as many look for opportunities in backwardated futures. One of the best ways to profit from backwardation is to utilize a commodity-focused ETP, as a number of them feature a roll pattern that will profit from backwardation. In most commodity ETFs, futures exposure is automatically rolled into the next contract at some point during each month. When futures are backwardated, this allows the fund to sell at one price, and buy into the same exposure for a lower price, creating value for the investors. Those who are a bit more seasoned can also trade futures on their own to lock in profits, but this method is not for everyone, as it can lead to big losses.

Below, we outline three commodities currently sitting in backwardation and how you can make a play.
  • Cotton: This soft commodity has become a popular trading tool among investors as it is well-known for its big daily movements. Cotton futures on the NYMEX are currently in backwardation until October of next year, giving investors plenty of time to make a play. Aside from the futures themselves, the Dow Jones-UBS Cotton Total Return Sub-Index ETN (BAL) can offer a compelling way to play the fluffy commodity. The Dow Jones-UBS Cotton Total Return Sub-Index ETN trades around 48,000 shares each day and is flat on the year.
  • Soybeans / Soybean Meal: These two have been among the best performing commodities of the year, as soybean meal has jumped 32% while soybeans have gained 21% respectively. For the time being, soybean meal is backwardated through January 2014, and soybean meal is backwardated through May of that same year. One ETF option for this commodity comes from the Soybean Fund (SOYB) from Teucrium though it does charge a hefty fee of 100 basis points.
  • Corn: Corn's appeal as an investment has become increasingly popular in recent years as many have realized that it is used in thousands of everyday products. In fact, it would be difficult to live a day (at least here in the US) without running into something that utilized corn. That being said, corn futures are exhibiting backwardation through the end of the year. Teucrium also offers a Corn Fund (CORN), which trades around 47,000 shares each day, though the fund has lost just over 9% during 2012.
Follow us on Twitter @CommodityHQ.

Editor's note: This article by Jared Cummans was originally published on Commodity HQ.
No positions in stocks mentioned.
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