By Elaine Kub

The Official Advocate for Personal Investing Originally published June 2011. SFO magazine.

If you could only look at one piece of infor-

mation before making a grain trade one day,

what piece of information would that be?

Your best bet is the U.S. dollar index.

There are a number of reasons why it makes

sense for agriculture commodity futures to

respond to movements in the dollar, and it’s

impressive how consistently they do so.

SOLD IN DOLLARSGrains, meat and fiber may have global

supply and demand points. However,

most major cash commodity transactions

ultimately are made in American dollars.

The largest futures markets for these

commodities are in the United States, and

thus, their benchmark prices get tied to

the dollar.

The traders who move vessels full of grain

across oceans like game pieces have their ex-

posure hedged against the dollar, and their

buying and selling power is tied directly to

the value of that currency at that time.

A stronger dollar index means it takes

few dollars for a trader to fill up a vessel

with grain. A weaker dollar index means

the same quantity of grain takes relatively

more dollars to buy.

CLOSER TO HOMEThat’s the fundamental justification behind

this relationship, but can you see how it

affects your own trading exposure? First,

recognize that this relationship has been

known and built into the markets since

their inception, and the strong correlations

behind this relationship are like catnip to

speculative algorithmic traders.

If we can expect corn prices to move

down 30% of the time when the dollar

moves up (a rough interpretation of the fact

that the past decade’s weekly returns of

corn futures and the U.S. dollar index have

a correlation of -0.305), that’s significant

enough for some funds to program certain

computers and throw a bunch of money at

some trading programs. See Figure 1.

The end result of this collective behav-

ior, however, can become a self-fulfilling

prophesy. When speculative money starts to

flow in or out of the agricultural commodi-

ties due to the movements of the dollar, the

resulting price changes can overheat.

THE RISK TRADEThere is also the tendency of risk-hungry

money to flow into commodities and risk-

Dollar’s Value: A TIp fOR COMMODITIES?

2 SFOmag.com

averse money to seek out “safer” assets, like

the U.S. dollar. That buying and selling pattern

works in tandem to keep the agricultural mar-

kets and the dollar in their steady tango. The

dollar steps forward; the ags step back.

We see that flow of money and its response

most strongly when the dollar index is reaching

new highs or lows, as it did when it bottomed

out just above 75 in early November 2010. (See

Figure 2.) If you were going to pick a time to gain

exposure to this relationship, volatile peaks or

troughs would be a good time to do it.

RISK/REWARDHowever, when picking your trade, some agri-

cultural markets will offer you more bang for

your buck than others. This is true whether

you’re interested in this phenomenon as a trad-

ing opportunity or, conversely, if you’re trying

to mitigate this phenomenon’s effect on your

portfolio. Either way, it’s nice to know which

markets have a stronger reaction to the dollar

than others.

Looking at weekly returns since 2002, corn

was the agricultural commodity with the

strongest negative correlation to the U.S. dollar

index’s returns. That’s reasonable. The U.S. is

the world’s largest corn exporter, and the USDA

estimates it will export about 16% of the corn it

produced in 2010. Other agricultural markets

with a strong negative correlation to the move-

ment of the dollar include soybeans, all classes

of wheat and cotton (all of them with a correla-

tion between -0.21 and -0.26).

Source: data from Telvent DTN’s ProphetX

fIguRE 1: Inverse Movement of Weekly Corn & USDX Price

2002 2003 2004 2005 2006 2007 2008 2009 2010

1.0

-1.0

0.8

10-w

eek

mov

ing

corre

latio

n

-0.8

0.6

-0.6

0.4

-0.4

0.2

-0.20

2011

U.S.

Dol

lar I

ndex

Corn U.S. Dollar Index

Corn

(cen

ts p

er b

ushe

l)

750

650

550

450

350

250

150

118

108

98

88

78

683/1

1/200

6

3/11/2

007

3/11/2

008

3/11

/200

9

3/11

/201

0

3/11

/201

1

3/11/2002

3/11/2003

3/11/2004

3/11/2

005

3 SFOmag.com

WEAKER CORRELATIONSAcross the agricultural board, negative cor-

relations to the U.S. dollar index are consistent,

but the relationships are not strong enough to

have statistical significance in trading. For ex-

ample, oats, live cattle and lean hogs have weak

negative correlations to the weekly returns of

the dollar (between -0.05 and -0.17).

Again, that’s reasonable. Exports don’t

make up as much of these markets. The USDA

estimates the nation has exported about 8% of

2010’s beef production. It will be interesting to

see if the correlation will grow stronger.

Exports are projected to trend toward a

larger proportion of the overall meat trade in

future years.

MINuTE-BY-MINuTEThose weekly returns may give us the broad-

est picture of this relationship’s consistency

over the past decade, but it’s a phenomenon

that also can affect day-to-day futures move-

ment. Analyzing the daily returns of various

agricultural commodities against those of the

U.S. dollar index since June 2009, cotton was

the market with the strongest negative correla-

tion (-0.308), but the grains also had significant

relationships to the dollar over the past two

years (between -0.22 and -0.28).

The livestock futures pits, again, seemed

relatively more able to ignore the dollar’s daily

jumps and tantrums. Hogs and cattle futures

were still negatively correlated to the dollar

(between -0.03 and -0.07).

WHAT’S THE BASIS?It’s fair to wonder if one species of trader is

more likely than another to get caught up in

this dance with the dollar.

Is this phenomenon of negative correlation

truly tied to the self-fulfilling prophesy of algo-

rithmic trading by speculative investors? Is it

more fundamentally tied to commercial traders

hedging their foreign sales?

The relationship doesn’t seem to be more influ-

enced by any one group of traders than another.

uNDERLYINg DNYAMICSThe two agricultural commodity markets with

the strongest negative correlations with the

dollar – corn and cotton – have notably dif-

ferent populations of traders. According to

the Commodity Futures Trading Commis-

sion’s weekly Commitments of Traders (COT)

reports, the corn futures market is populated

mostly by commercial traders (producers,

merchandisers, exporters, etc.), but it attracts a

significant proportion of speculative (managed

money) participation, as well.

We might be tempted to say those speculators

are the ones whipsawing corn futures according

to the whims of the dollar, except that when we

Source: Prophet X

fIguRE 2: U.S. Dollar Index Versus Front-month Cotton Futures

82

81

80

79

78

77

76

75

74

73

Sept-10 Oct-10 Dec-10 Jan-11 1 DayNov-10

190

180

170

160

150

140

130

120

110

100

U.S. Dollar Index

Front-month Cotton Futures

4 SFOmag.com

look at the cotton market’s makeup, we see a

market similarly entranced with the gyrations

of the dollar, even without a large proportion

of managed money trading it. See Figure 3.

WATCH THE DOLLARPeople trading the agricultural commodity

markets, whether they are farmers hedg-

ing their crops or retail investors looking to

diversify their portfolios, need to be aware

of how these markets are likely to behave,

given how the U.S. dollar is expected to

change. It’s important to know how strongly

a given market is related to the dollar, and it’s

also important to watch how that strength is

changing over time.

Corn, for instance, can act as a benchmark

to show us that the agricultural markets may

not move in a perfect inverse to the dollar

every week, but they’ve been growing more

likely over the past decade to respond in step

to the dollar’s movements.

Elaine Kub is a market adviser with the Agricultural Risk

Consulting Group LLC.

Copyright 2011 by Wasendorf & Associates Inc. All rights reserved. No part of this publication may be reproduced or transmitted in any form by any means, electronic or mechanical including posting to another website, photocopying, recording or by any informative storage and retrieval system without the written permission of Wasendorf & Associates Inc.’s president.

This article is strictly the opinion and conjecture of its writers and is intended solely for informative and educational purposes and is not to be construed, under any circumstances, by implication or otherwise, as an offer to sell or a solicitation to buy or trade in any commodities or securities herein named. This article is not meant to recommend, promote or in any way imply the effectiveness of any trading system, strategy or approach. Information is obtained from sources believed to be reliable, but is in no way guaranteed. Further, there is no guarantee of any kind that is implied or possible where projections of future conditions are attempted. The publisher is not liable for typographical errors.

Commodity futures, securities, options and forex trading involve risk and are not suitable investments for everyone. Any investment should be carefully considered in light of an investor’s personal financial objectives and risk tolerance.

The article contained herein may provide hypothetical or simulated performance results. Hypothetical or simulated performance results have certain inherent limitations. Unlike an actual performance record, simulated results do not represent actual trading. Also, since the trades have not actually been executed, the results may have over- or undercompensated for the impact, if any, of certain market factors such as the lack of liquidity. Simulated trading programs are also subject to the fact that they are designed with the benefit of hindsight. No representation is being made that any account will or is likely to achieve profits or losses similar to those shown. Further, past performance does not guarantee future results.

fIguRE 3: Average Participation Since 2006

ManagedMoney

Cotton Futures Open Interest

Producers All Others

ManagedMoney

Corn Futures Open Interest

Producers All Others

ManagedMoney

Live Cattle Futures Open Interest

Producers All Others

ManagedMoney

CBOT Wheat Futures Open Interest

Producers

Sour

ce: d

ata

from

CFT

C’s

Com

mitm

ents

of Tr

ader

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