Lesson 8: The Seasonality

Spread Trading, Seasonality, Correlation, Commodity

Spread Trading, Seasonality, Correlation, CommodityWe have started to see in the previous article Commodity fundamental analysis, the fundamental aspects of commodities and how these affect our choices of trading.

The most exciting aspect of commodities and that forms the basis of our analysis is the seasonality. Seasonality is a cyclical condition that happens every year as, for example, the classic change of the seasons. Similarly, we have a repetition of the sowing and harvesting of a crop in the same period every year; as well as livestock or industrial production cycles that recur every year. And so on.

Think about the heating oil, whose consumption will be significantly greater in Autumn and Winter and smaller during Spring and Summer.

All of this is reflected graphically. We can assist, at certain times of the year, at the repetition of certain movements of a spread. This is an amazing advantage that we get only with the commodities. Knowing in advance which is the seasonality of various commodities, we can anticipate price movements.

It is usual to find spreads that, in the last 15 years (or more as well), if we had bought and sold them always on certain specific dates, we would get the 100% of winning trades.

You now are probably wondering: "how do I know these seasonal windows?" You do not have to worry; there are websites with statistical databases that will give you all the necessary information for a complete analysis. The main statistical databases are Moore Research and SeasonAlgo, and we will see them in detail in the next article.

The seasonality is another string to our bow and a great starting point for our commodity trading but, of course, it should not be the only reason for opening a trade. The spreads selected on the basis of seasonality, subsequently, have to be filtered.

We have already seen, it is important that a future (or the futures that make up a spread) are in a phase of contango. A situation of backwardation could undermine the seasonality. But not only that. Another significant aspect to consider in our fundamental analysis of a spread is the correlation.

We have seen that the correlation is defined as the ratio of price developments of two markets. We talk about correlated markets when the first market increases and also the second one increases, and vice versa when the first market decreases and the second one decreases as well.

Not only with two correlated commodities we have the same movement for most of the time, but also macroeconomic news and data have the same impact on both. We have already seen in the previous article about spread trading as this aspect is significant because it reduces the risk of sudden losses in spread trading.

Significant, then, is to find a correlation with a past year. If we know, for example, that this year the wheat is behaving exactly like in 2012 and that are 145 days it is following the same trend, this provides us further confirmations and advantages.

All we have to do is to consider the chart of wheat in 2012 to have reliable indications of what could be the future behaviour of wheat.

All this, as mentioned above, we will see it better in the next article after the Christmas season devoted to statistical databases.

Seasonalgo, seasonal trading, spread trading, commodity market


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