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Kaeppel's Corner: Seasonal Trends Say Buy Stocks, Sell Soybeans

By Jay Kaeppel, Optionetics.com | Mon July 16, 2012 3:34AM PT


There is potentially bullish news on the seasonal front for the stock market – and potentially bearish news on the seasonal front for soybeans.  Use of the word “potentially” is always important when speaking of seasonal trends in any market.  As much as I am a fan of seasonal trends, there are never any guarantees regarding the future use of any trend that has worked well in the past. 

I hate that part.


The 40-Week Cycle in the Stock Market

I first read about the 40-week cycle in the stock market back in the mid-1990’s (sadly, I don’t remember where I read it, so I still don’t know whom to thank).  This cycle has proven to be quite useful over the years in suggesting good times to be in or out of the stock market. 

For some admittedly inexplicable reason, this story starts on April 21, 1967.  From that date forward the stock market has (essentially) moved in 40-week “waves” (no, seriously).  In theory, the first 20 weeks of each cycle is considered to be the “bullish” phase and so during this time you would buy and hold a Dow or S&P 500 index fund.  The second 20 weeks of each cycle is considered to be the “bearish” phase and during this time you would hold cash.  Sounds kind of ridiculous I know.  But please bear with me.

With any investment method it is usually best to have an “Uncle point”, meaning a stop-loss or a place where you simply say “this isn’t working out” and cut your loss.  

So for this method I use the following guidelines:

-At the close of trading on the last trading day of the latest bearish phase, buy a Dow index fund.

-Hold the fund until either:

a) The fund declines 12.5% or more from the entry level, or

b) Exactly 20 weeks go by.

-When either a or b occurs, sell the Dow fund and move to cash (test results assume interest is earned at a rate of 1% per year).

Figure 1 displays the growth of $1,000 invested in the Dow using the rules above since April 1967 versus a buy and hold approach.


Figure 1 – Growth of $1,000 using Jay’s 40-Week Cycle System (blue line) versus Buy-and-Hold in Dow Jones Industrials (red line); April 1967- Present

For the record:

-$1,000 invested in the Dow on a buy-and-hold basis grew to $14,467, or +1,346%.

-$1,000 invested using the 40-week system grew to $32,644, or +3,164%.

To better appreciate the performance displayed in Figure 1, consider using essentially the opposite approach.  Figure 2 displays the growth of $1,000 invested in the Dow only when the 40-week cycle is in the bearish 20-week portion of each full 40-week cycle. 


Figure 2 – Decline of $1,000 invested in Dow Industrials only during each 20-week bearish phase since 1967

For the record:

-$1,000 invested in the Dow only during each 20-week bearish phase declined -29% to $712.

So the bottom line is that over the past 45 years the Dow has gained over +3,100% during the 20-week bullish phases and lost almost -30% during the 20-week bearish phases.

The most recent bullish phase just began at the close of trading on 7/13/2012 and will extend through 11/30/2012.  Will the stock market rally over the next roughly four and a half months?  Not necessarily.  Still, the Dow has advanced during 43 of the 59 bullish phases since 1967, or 73% of the time. 

So it might be wise to give the bullish case the benefit of the doubt.


A Bearish Seasonal Period for Soybeans

As of the close on 7/13, soybean futures entered into one of its most historically consistent bearish periods.  This period extends from the close on the ninth trading day of July through the close of the sixth trading day of August.  Soybean futures have shown a loss during this period in 29 of the past 34 years. 

The growth achieved by selling short one September soybean futures contract during this period every year for the past 34 years appears in Figure 3.

Figure 3 – Equity curve generated by holding short one September Soybeans contract from July Trading Day 9 through August Trading Day 6 (1978-Present)

Holding a short position of one September Soybeans contract (ignoring slippage and commission) generated a gain of over $65,000 since 1978.  Still, if you have never traded a commodity futures contract before, please do not rush out and sell short soybean futures based on this tidbit of historical information.  There are two good reasons for this bit of advice.  First, jumping into futures trading is not something that one should do “in a hurry.”  To wit, see:

Jay’s Trading Maxim #29a: One of the most surefire ways to lose money in the financial markets is to trade a futures contract without a thorough understanding and appreciation of the potential risks involved. 

Jay’s Trading Maxim #29b: The worst thing that can happen to any trader is that they recklessly violate JTM #29a and somehow make money on their first three futures trades anyway (i.e., once you think you’ve got “The Touch”, you “Are Toast”).

Secondly, we are in the midst of a drought here in the Midwest.  The grain markets have not missed this fact and soybeans, corn and wheat have all rallied sharply of late in anticipation of below average crops.  So anytime you find yourself contemplating a short position in grains in the middle of a drought, it is always important to consider:

Jay’ Trading Maxim #202: There is an exceedingly fine line between courage and stupidity.

For those who are still reading, there is an alternative to simply selling short a futures contract.  Implied volatility for soybean options is presently relatively high, so a trader could consider a bear call spread, for example, selling short the September 160 call and buying the September 162 call.  The reward/risk tradeoff for this position as of the close on 7/13 is displayed in Figure 4.


Figure 4 – Short Sep 160 Soybean call, Long Sep 162 Soybean call

As you can see in Figure 4, this position has $344 of profit potential (on a 1-lot) and $656 of risk.  So a trader would likely want to consider some sort of stop-loss point, perhaps somewhere north 1700 – which equates to $17 a barrel for soybeans.

A few important notes: For the record, I am not urging anyone to sell short soybean futures.  I am simply pointing out historical performance during this time of year.  Likewise, I am not urging you to take this option trade, I am simply pointing out one limited risk way to play as an alternative to selling short a futures contract.  Lastly, this article was written on Sunday afternoon, 7/15 (some guys just know how to enjoy a weekend, huh?).  As of Sunday night, September Soybeans were already up 34 cents to a new high above 1600.  My best advice for those who truly desire to take a shot at the short side of beans is to look for some sort of momentum break before jumping in.  For example, that could mean a short breakout to new highs followed by a downside reversal or another new high which is not confirmed by indicators such as the 3-day RSI, etc.

There, Mission CYA accomplished 


Natural Gas Update

Before one gets too excited about either of the ideas discussed so far, it would be wise to remember (as much as it pains me to do so) my article regarding natural gas dated June 12, 2012 (http://www.optionetics.com/market/articles/2012/06/12/kaeppels-corner-is-natural-gas-about-to-break-wind). 

In that article I pointed out that natural gas futures had declined in price between June Trading Day #11 and July Trading Day #14 during each of the past 19 (yes, 19) years.  I also suggested the idea of buying a put option on UNG – the exchange-traded fund that tracks the price of natural gas futures - at the close on 6/15.  The “bearish” period ends at the close on Friday 7/21.

So how has this brilliant piece of analysis worked out?  Um, er, ah, well, I was afraid you were going to ask.  Since the close on 6/15, UNG has rallied from 17.16 to 19.61 and the July 19 put option has lost about 88% of its value.  So, hey, thanks for bringing it up. 

Still, there are two things to note:

a) Not every seasonal trend works out every time around, therefore it is important to...

b) Carefully consider the amount of risk you are willing to assume on any given position

So for the record, the Natural Gas trade that was highlighted in the June article involved a maximum risk of $360 per 1-lot.

And finally, for those who just can’t get enough, one “last gasp” idea is to buy the July 21 UNG put as shown in Figure 5.  The cost is $157 for a 1-lot, and there is only $0.18 of time premium in the option.  So if UNG does by chance fall apart during the last 5 trading days of this supposedly bearish period, the option will experience almost point for point movement with the ETF itself.

Figure 5 – “Last Gasp” Bearish trade in UNG

Hey, it’s never too late, right?

Jay Kaeppel

Staff Writer and Trading Strategist

Optionetics.com ~ Your Options Education Site



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