Fundamentally, wheat prices have been under a lot of pressure, due in part to a large world supply and a declining euro. Just as prices on the nearby wheat futures contracts at all three U.S. exchanges posted a new low for the recent move, wheat at the MGEX formed a two-week reversal.
This reversal indicated wheat prices were about to stop going down and reverse back up. This is another example of how technical analysis has the ability to cut through the bearish news. Wheat prices have since rallied 50 cents per bushel in the three weeks that followed. The settlement price (B), was a 14-week high on Friday (April 23).
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Two-week reversal
A two-week reversal begins to develop when the market advances to a new low and closes at or near the low of the week. The following week, prices open unchanged to slightly lower, but they are not able to sustain follow-through weakness. Buying picks up early in the week to halt the decline and prices begin to rally. By week’s end the market rallies to around the preceding week’s high and closes at or near that level.
Market psychology: The two-week reversal is a 180° turn in sentiment. On the first week the shorts are comfortable and confident as the market’s poor performance provides encouragement and reinforces the expectation of greater profits. Shorts are traders who have sold futures contracts in anticipation of lower prices.
The second week’s activity is psychologically damaging. It is a complete turnaround from the preceding week and serves to destroy or at least shake the confidence of those who are still short the market. The immediate outlook for prices is abruptly put in question. Shorts respond to strengthening prices by exiting the market. Some buy to protect profits and others buy to stop losses. This increased buying causes prices to advance upward.
Wheat prices had been trading in a narrow sideways range for the past three months. This range is identified by the horizontal lines of support and resistance drawn in the accompanying chart.
Volatility has increased with prices first breaking down below the line of support one week and reversing back up the next. Not only did this particular chart pattern develop into a two-week reversal, but it also confirmed the “bear trap” (A).
A “bear trap” catches the shorts looking down at the bottom of the market. At first the shorts are relaxed and resting quite easy. Their profits increase when prices break below the line of support.
The “bear trap” is sprung when the price slide abruptly halts and the market quickly reverses back above the line of support. The shorts are quick to buy back their positions. Some buy to take profit and others buy to stop losses. Short covering is often the first reason that a market turns back up.
Farmers should consider taking advantage of this spring rally to price old crop wheat and to hedge a portion of their new crop production. Farmers could evaluate the Canadian Wheat Board’s fixed price contract (FPC) or the “Futures First” component of the CWB basis price contract (BPC) before prices turn back down.
The wheat market is known for its ability to wear all the bulls out before it has a significant rally. This rally will only go so far before it runs out of steam. Just as the two-week reversal alerted traders and farmers alike to the commencement of the spring rally, the charts will also provide valuable insight as to when the rally will end.
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— David Drozd is president and senior market analyst for Winnipeg-based Ag-Chieve Corp. The opinions expressed are those of the writer and are solely intended to assist readers with a better understanding of technical analysis in the markets influencing agriculture. The information contained herein is deemed to be from sources that are reliable, but its accuracy cannot be guaranteed. Visit us online for more grain marketing ideas and educational tools, or call us toll free at 1-888-274-3138 for a free consultation.
Editor’s note: Those viewing this page on AGCanada.com can click here for a version of this article that includes the chart.
