I’m sure you’ve seen something similar to this in market news headlines: “Funds are record SHORT corn” or, “Hedge funds are now LONG soybeans — Where does the market go from here?”
What does that even mean? “SHORT corn” or “LONG soybeans”???
And who are these ‘funds’?
Let’s break this down using an analogy, my favorite tool for better understanding.
Imagine that you run a high-end Italian restaurant.
Tomatoes are your main ingredient in a variety of dishes, especially in your homemade pizza and pasta sauces.
Each year, you purchase home canned, San Marzano tomatoes from an exclusive supplier. They’re the key to your incredible sauce recipes.
One day, one of your tomato farmer contacts told you they’ve been struggling to fight a disease impacting their San Marzano tomato plants. He thinks it could be a more widespread issue affecting multiple farmers.
Because of this, you decide to call your supplier and book an order to lock in the price of your canned tomatoes today.
You decide to order not only enough tomatoes to satisfy your projected needs for the year, but also plenty of additional jars you do not expect you’ll personally need.
These additional jars are a speculation.
You’re speculating that you’ll be able to sell the additional jars at a higher price later in the year if the disease is more widespread and really takes a toll on the crop.
Do you know what you just did by buying more tomatoes than you need now, with the expectation the market price will rise later?
You went ‘LONG’ tomatoes.
This is very similar to the funds going ‘long’ in the commodities futures markets.
When funds go ‘long‘, they’re buying commodity futures contracts today with the expectation that the futures price will rise and they can sell those contracts for a higher price at a later date.
Conversely, when funds decide to take a ‘short‘ position, they sell commodities futures contracts today with the expectation that the futures price for that commodity will fall, and they can buy back the contracts for a lower price at a later date.
In both cases, if the market moves according to expectations, the funds make money because they buy the contracts at a cheaper price than they are able to sell them.
Now, let’s tackle the second important question from the beginning of the article: “What are funds?”
‘Funds’ refers to managed money. Money managers look for opportunities to take ‘positions’ (long or short) in various markets, including commodities, stocks, energy, etc.
The goal of funds is to speculate by taking a long or short position in a market and hope the market moves according to their expectation to they can capture a gain.
Of course, the market can, and often does, move in a direction unfavorable to the position. Thus, resulting in a loss.
Now that you know what funds are and what it means when the funds take a ‘long’ or ‘short’ position, you can better understand articles and market commentary that use this terminology.
Additionally, by understanding the position the funds have in the market at any given moment, you gain perspective into which direction the market expects commodity prices to move.