SocGen ups warning over fund sales in cattle and coffee
The index fund rebalancing splurge, which starts on Thursday, may bring even bigger selling to arabica coffee and live cattle markets than had been thought, while now looking a negative for corn and wheat futures too.
Index funds every January rejig their portfolios to bring them in line with the weightings suggested by the index they follow. For the S&P GSCI and BCOM, the two main commodity indices, the rebalancing will occur from January 8-14.
Besides accounting for any revisions to the index, this process typically means selling the top performers of the previous year, which in agriculture include live cattle, which gained 23% in 2014, and arabica coffee, which soared 51%.
Both contracts suffered setbacks last month - with live cattle futures pressed by the passing of the seasonal surge in end-of-year demand, and coffee by rains which reduced concerns for Brazil's drought-hit coffee plantations.
However, the declines did not stem the prospect of hedge index fund selldowns of both coffee and live cattle futures during the reweighting period, Societe Generale said, with commodities overall faring poorly, dragged lower by the plunge in crude prices.
'This is significant'
Indeed, Societe Generale, estimating the outflow from the arabica coffee market at $1.24bn during the reweighting period overall, said this implied sales equivalent to 47% of volumes on each of the balancing days, up from an estimate a month ago of 34%.
"This is significant," the bank said.
For live cattle, the forecast for the outflow was raised by $164m to $1.16bn, equivalent to 17.8% of daily volumes, up 1.6 points from the estimate last month.
"The reweighting in the cattle markets is likely to pressure the spread between live cattle and feeder cattle," said SocGen, calculating that the futures market for feeder cattle – ie animals yet to be fattened on feedlots – likely to see a cash inflow over the reweighting period, of about $100m.
"These volumes represent 17.8% and 6.5% of the daily volume respectively and are sufficient to have an impact on prices from both a market impact and sentiment perspective."
'Material impact on prices'
The bank also raised its estimate for the impact on the cotton market, by 2.1 points to 13.9% in terms of daily volumes during the process which index fund rebalancing trades should account for.
However, the funds will be buying cotton, after a poor performance by the fibre last year, when futures fell 28% on a front contrast basis on expectations that reforms to Chinese subsidies will slash the country's import demand.
For all three contracts, live cattle, arabica coffee and cotton, the proportion of contracts which appear to be about to change hands "are significant and will likely have a material impact on prices, curve structure, and sentiment ahead of and also during the rebalancing period".
Indeed, the adjustments may well have less impact on prices actually during the period itself than might be expected, with speculators having positioned ahead to exploit the process.
SocGen also said that its latest calculations implied that rebalancing will bring some index fund selling to Chicago corn and wheat futures too, rather than the buying anticipated a month ago.
However, at $496m for corn, and $406m for wheat, the fund sales are equivalent to a relatively small 5.4% and 7.1% respectively of typical daily volumes.
Soybeans will see a small inflow, equivalent to 1.2% of daily volumes.