Given the price volatility of pork cutout prices through the pandemic during the spring months, the desire for traders to get a better investment tool for pork prices than the traditional lean hog futures has created interest and optimism about the rollout of new pork cutout futures.
In theory, this would be a good opportunity for packers and end-users of pork products to manage risk better when it comes to end-product needs. There were also expectations that noncommercial investment traders would be very interested in the ability to focus on pork cuts and potentially be able to create market spreads between lean hog futures and pork cutout spreads. This has the opportunity for increased margins to be made (or lost) in the event when pork prices do not move in conjunction with the lean hog futures price. This was one of the issues seen during the spring, when meat values surged higher while animal prices tumbled due to limited processing availability.
All of that led up to early November, when the anticipated rollout of the new meat contract would be able to be used by traders. The famed "pork belly" contracts, which seemed to be icons of futures trading, were first introduced in 1961, but in 2011 were phased out due to minimal interest. In the later years of pork belly trade, open interest remained extremely light, with sometimes days or longer without active volume developing in several contract months. Essentially, no matter how relevant the product or commodity is in its physical realm, critical open interest needs to be seen in futures trade in order to entice traders to stay active in the market. This is the place we find ourselves in with the new and touted pork cutout contracts in December 2020.
Pork cutout contracts have posted moderate price movements during the first month of trade, but generally have traded in-line with the moves in the lean hog futures complex. Total open interest of the well-advertised new complex drew a total open interest of 85 contracts on the first day of trade. Since that time, open interest grew steadily for the first two weeks, but seems to have stalled out near 500 contracts, where open interest has hovered for the week.
To be fair to the infant commodity market, it is going to take time for traders to become accustomed to the market. This may still be weeks or months down the road and could lead to underlying support in the first new pork meat futures market in nearly 10 years. But it is also important to understand the differences and challenges that the pork cutout market has to overcome. Futures traders have continued to be reluctant to actively or quickly move into new markets when "old standbys" are still available to meet their needs.
The overall market open interest and volume remains miniscule to the size of lean hog futures contracts, which currently hold total open interest of 200,920 contracts compared to 520 pork cutout contracts. So far during the short 10-year life of the new contracts, nothing significant has stood out between the movements of pork cutout and lean hog contracts; these contracts have generally moved in similar direction. The lack of divergence of the two markets will likely keep traders out of pork cutout values and in the standby lean hog markets.
It is true that a major disruption of pork processing schedules, like we saw during the spring months, could change the course of trader direction and cause pork cutout values to explode, but until that happens, pork cutout futures may continue to view this complex as a niche market.
Rick Kment can be reached at Rick.Kment@dtn.com
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