What Drives Soybean Prices: El Niño, Geopolitics, or Seasonality
El Niño means little boy in Spanish. The fishermen in Latin America observed periods of unusually warm water in the Pacific Ocean in the 1600s around Christmas. El Niño can cause 50% variation in local weather in regions growing essential crops like beans, corn, and coffee.
Soybean is a giant in global trade. It ranks among the top comprising more than 10% of the total value traded annually. Soybean is used for edible oils, biofuels, and livestock feed.
This paper introduces the impact of El Niño on bean prices, geopolitical risk in beans given its idiosyncratic market structure, and seasonality. Medium to longer term impact on bean prices will be dictated by severity of weather, demand, and energy prices.
However, in the near term, record Brazilian output and ongoing harvests in China, India, Russia, Ukraine, and Canada will weigh down on bean prices.
To gain from weakening prices, this paper posits a hypothetical short position in CME Soybean Futures expiring in November 2023 (ZSX2023) with an entry at USc 1296/bushel combined with a target at USc 1188/bushel and hedged by a stop at USc 1368/bushel, delivering an expected reward-to-risk ratio of 1.5x.
EL NIÑO IS A RECURRING CLIMATE PHENEMENON
El Niño and Southern Oscillation (ENSO) is a recurring climate phenomenon which has significant global impact on precipitation and temperature.
ENSO is the result of the natural cyclical interaction between equatorial sea surface temperature (SST) and the atmosphere. These interactions lead to climate fluctuations across more than 60% of the world. ENSO has a major effect on rainfall and temperature variation.
In some regions, such as those closest to the tropical pacific, ENSO can result in 50% of the total variation in local weather. These regions are often the most essential for important crops like bean, corn, and coffee.
These interactions oscillate between warming and cooling periods leading to the ENSO cycle plotted below. The pattern recurs every two to seven years.
Notably, the frequency of the ENSO cycle and the intensity of its effects have increased over the last fifty years due to global warming. As a result, ENSO has an outsized influence on global economy given its potency of delivering shocks to agriculture.
El Niño are periods of warm ocean temperatures (highlighted in red) in the Central and Eastern Equatorial Pacific regions. La Niña are periods with cooler ocean temperatures (marked in green above) in Central and Eastern Pacific zones.
Periods with no major deviation from average Sea Surface Temperature (SST) are considered normal weather conditions.
Each El Niño or La Niña phase persists for two years on average. However, a longer-than-expected phase of El Niño (like the one in 2015) can lead to a much more significant impact on agricultural markets owing to larger drawdown on inventories.
THE BEAN IS EXPOSED TO GEOPOLITICS
The Americas comprise >80% of total global production. Top producers are Brazil, the US, Paraguay, and Argentina. These nations are also the top bean exporters.
China is world's largest importer. It mops up 60% of global import demand. Beans in China is primarily used to feed its massive livestock population.
Unlike staple grains, the bean industry is highly centralized given the structure of the sea-borne market. Consequently, they are prone to shocks from disruptions such as trade restrictions and geo-politics.
In 2017, soybean was caught in the crossfire in US-China tariff war. Back then, China placed a 25% tariff on beans imported from the US. This drove demand for Brazilian soybeans as the US ones were rendered expensive for Chinese importers.
The trade friction adversely impacted the US, to an extent that is feltto this day. Since then, US exports have been far lower while Brazilian exports have gradually expanded. It has also led to structural shifts in bean usage.
SEASONALITY IS PREDICTABLE IN BEAN PRICE BEHAVIOUR
As previously published, seasonality in beans is driven by the harvest cycle. North American crop is harvested between September and November while South America harvests from March to June.
Bean prices decline after harvesting cycles. Distinct price patterns can be discerned by analysing seasonality. Prices rise through the first half of the year from January to June as inventories deplete. Then, they rapidly decline following harvesting in Argentina and Brazil.
EL NIÑO FAVORABLY IMPACTS BEANS
El Niño’s effect on beans is consistent. Usually, extreme weather typically creates havoc to crop and crop yield. But not so in the case of soybeans.
Interestingly, research shows that El Niño favourably impacts American soybeans farmers leading to a 3.5% increase in yield on average. Increased rainfall and lower temperature in the Americas caused by El Niño explains this favourable weather impact on the crop.
As Weston Anderson, et al. highlight, the impact is most significant during peak El Niño which is expected next year. While American farmers benefit from benign weather, Asian growers suffer adverse effects of El Niño, resulting in declining yield and production in Asia.
OUTLOOK FOR BEANS
Taking into consideration the drivers outline as above, larger harvest is expected in Brazil in 2024. In 2023, Argentinian harvest was significantly smaller due to unfavourable weather, and this is expected to recover back to its usual levels.
The USDA is forecasting a larger harvest in China in 2024. However, peak El Niño could negatively impact Chinese crop leading to spike in import demand.
Seasonal trends point to a winter rally in bean prices ahead.
However, historical analysis shows that El Niño years result in a higher-than-average yield in soybean. Combining the effect of (a) record Brazilian output, plus (b) El Niño fuelled greater yields leading to abundant harvest in 2024, the higher-than-average yield in soybean could cause a potential glut.
Bean oversupply will cut short a winter price rally. Worse still, a glut could make the post-harvest price crash next year much more severe.
SIGNALS FOR BEAN PRICES FROM DERIVATIVES MARKETS
The commitment of trader’s report points to declining net long positions by managed money inching towards lows observed during May earlier this year.
Even the options market hints at bearish slant with put-call ratio at 1.13x within rising open interest build up in puts in the near term.
Since mid-September, data from CFTC shows that bean options traders are positioning themselves against fall in prices as they have added 18,079 lots in puts versus 13,090 lots in calls.
HYPOTHETICAL TRADE SET UP
With more harvests coming onstream, soybean prices will come under increasing downward pressure in the near term.
To gain from crumbling bean prices, a hypothetical short position in CME Soybean Futures expiring in November (
ZSX2023) with an entry at USc 1296/bushel and a target at USc 1188/bushel, hedged by a stop at USc 1368/bushel is expected to deliver a reward-to-risk ratio of 1.5x.
Each soybean futures contract provides exposure to 5,000 bushels (~136 metric tons) and is quoted in US cents per bushel. Each tick represents one-fourth of a cent (USc 0.25) per bushel resulting in USD12.50 in P&L.
• Entry: 1296
• Target: 1188
• Stop: 1368
• Profit-at-Target (hypothetical): USD 5,400 (1296 – 1188 = 108; 432 ticks x 12.50 = 5,400)
• Loss-at-Stop (hypothetical): USD 3,600 (1296 – 1368 = -72; -288 ticks x 12.50 = -3,600)
• Reward-to-Risk (hypothetical): 1.5x
REFERENCES
Nature
ScienceDirect
MARKET DATA
CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme/.
DISCLAIMER
This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services.
Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
Soybean is a giant in global trade. It ranks among the top comprising more than 10% of the total value traded annually. Soybean is used for edible oils, biofuels, and livestock feed.
This paper introduces the impact of El Niño on bean prices, geopolitical risk in beans given its idiosyncratic market structure, and seasonality. Medium to longer term impact on bean prices will be dictated by severity of weather, demand, and energy prices.
However, in the near term, record Brazilian output and ongoing harvests in China, India, Russia, Ukraine, and Canada will weigh down on bean prices.
To gain from weakening prices, this paper posits a hypothetical short position in CME Soybean Futures expiring in November 2023 (ZSX2023) with an entry at USc 1296/bushel combined with a target at USc 1188/bushel and hedged by a stop at USc 1368/bushel, delivering an expected reward-to-risk ratio of 1.5x.
EL NIÑO IS A RECURRING CLIMATE PHENEMENON
El Niño and Southern Oscillation (ENSO) is a recurring climate phenomenon which has significant global impact on precipitation and temperature.
ENSO is the result of the natural cyclical interaction between equatorial sea surface temperature (SST) and the atmosphere. These interactions lead to climate fluctuations across more than 60% of the world. ENSO has a major effect on rainfall and temperature variation.
In some regions, such as those closest to the tropical pacific, ENSO can result in 50% of the total variation in local weather. These regions are often the most essential for important crops like bean, corn, and coffee.
These interactions oscillate between warming and cooling periods leading to the ENSO cycle plotted below. The pattern recurs every two to seven years.
Notably, the frequency of the ENSO cycle and the intensity of its effects have increased over the last fifty years due to global warming. As a result, ENSO has an outsized influence on global economy given its potency of delivering shocks to agriculture.
El Niño are periods of warm ocean temperatures (highlighted in red) in the Central and Eastern Equatorial Pacific regions. La Niña are periods with cooler ocean temperatures (marked in green above) in Central and Eastern Pacific zones.
Periods with no major deviation from average Sea Surface Temperature (SST) are considered normal weather conditions.
Each El Niño or La Niña phase persists for two years on average. However, a longer-than-expected phase of El Niño (like the one in 2015) can lead to a much more significant impact on agricultural markets owing to larger drawdown on inventories.
THE BEAN IS EXPOSED TO GEOPOLITICS
The Americas comprise >80% of total global production. Top producers are Brazil, the US, Paraguay, and Argentina. These nations are also the top bean exporters.
China is world's largest importer. It mops up 60% of global import demand. Beans in China is primarily used to feed its massive livestock population.
Unlike staple grains, the bean industry is highly centralized given the structure of the sea-borne market. Consequently, they are prone to shocks from disruptions such as trade restrictions and geo-politics.
In 2017, soybean was caught in the crossfire in US-China tariff war. Back then, China placed a 25% tariff on beans imported from the US. This drove demand for Brazilian soybeans as the US ones were rendered expensive for Chinese importers.
The trade friction adversely impacted the US, to an extent that is feltto this day. Since then, US exports have been far lower while Brazilian exports have gradually expanded. It has also led to structural shifts in bean usage.
SEASONALITY IS PREDICTABLE IN BEAN PRICE BEHAVIOUR
As previously published, seasonality in beans is driven by the harvest cycle. North American crop is harvested between September and November while South America harvests from March to June.
Bean prices decline after harvesting cycles. Distinct price patterns can be discerned by analysing seasonality. Prices rise through the first half of the year from January to June as inventories deplete. Then, they rapidly decline following harvesting in Argentina and Brazil.
EL NIÑO FAVORABLY IMPACTS BEANS
El Niño’s effect on beans is consistent. Usually, extreme weather typically creates havoc to crop and crop yield. But not so in the case of soybeans.
Interestingly, research shows that El Niño favourably impacts American soybeans farmers leading to a 3.5% increase in yield on average. Increased rainfall and lower temperature in the Americas caused by El Niño explains this favourable weather impact on the crop.
As Weston Anderson, et al. highlight, the impact is most significant during peak El Niño which is expected next year. While American farmers benefit from benign weather, Asian growers suffer adverse effects of El Niño, resulting in declining yield and production in Asia.
OUTLOOK FOR BEANS
Taking into consideration the drivers outline as above, larger harvest is expected in Brazil in 2024. In 2023, Argentinian harvest was significantly smaller due to unfavourable weather, and this is expected to recover back to its usual levels.
The USDA is forecasting a larger harvest in China in 2024. However, peak El Niño could negatively impact Chinese crop leading to spike in import demand.
Seasonal trends point to a winter rally in bean prices ahead.
However, historical analysis shows that El Niño years result in a higher-than-average yield in soybean. Combining the effect of (a) record Brazilian output, plus (b) El Niño fuelled greater yields leading to abundant harvest in 2024, the higher-than-average yield in soybean could cause a potential glut.
Bean oversupply will cut short a winter price rally. Worse still, a glut could make the post-harvest price crash next year much more severe.
SIGNALS FOR BEAN PRICES FROM DERIVATIVES MARKETS
The commitment of trader’s report points to declining net long positions by managed money inching towards lows observed during May earlier this year.
Even the options market hints at bearish slant with put-call ratio at 1.13x within rising open interest build up in puts in the near term.
Since mid-September, data from CFTC shows that bean options traders are positioning themselves against fall in prices as they have added 18,079 lots in puts versus 13,090 lots in calls.
HYPOTHETICAL TRADE SET UP
With more harvests coming onstream, soybean prices will come under increasing downward pressure in the near term.
To gain from crumbling bean prices, a hypothetical short position in CME Soybean Futures expiring in November (
ZSX2023) with an entry at USc 1296/bushel and a target at USc 1188/bushel, hedged by a stop at USc 1368/bushel is expected to deliver a reward-to-risk ratio of 1.5x.Each soybean futures contract provides exposure to 5,000 bushels (~136 metric tons) and is quoted in US cents per bushel. Each tick represents one-fourth of a cent (USc 0.25) per bushel resulting in USD12.50 in P&L.
• Entry: 1296
• Target: 1188
• Stop: 1368
• Profit-at-Target (hypothetical): USD 5,400 (1296 – 1188 = 108; 432 ticks x 12.50 = 5,400)
• Loss-at-Stop (hypothetical): USD 3,600 (1296 – 1368 = -72; -288 ticks x 12.50 = -3,600)
• Reward-to-Risk (hypothetical): 1.5x
REFERENCES
Nature
ScienceDirect
MARKET DATA
CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme/.
DISCLAIMER
This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services.
Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
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