Todd's Take

Corn's Best Moving Average

Todd Hultman
By  Todd Hultman , DTN Lead Analyst
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This chart shows theoretical changes in equity using a trend-following approach for December corn, comparing four moving averages. From 1996 through 2016, using a 60-day simple moving average consistently outperformed the use of 40-, 80- and 100-day averages. Source: DTN ProphetX. (DTN chart)

So far in 2017, December corn has kept a low profile, trading in a narrow range between $3.78 1/4 and $4.04. But the seasonal clock is ticking, and we are entering the time of year when prices typically turn more volatile and are apt to take a direction.

You may recall, that last summer, I wrote about Richard Donchian's simple system for tracking trends, finding that a 25-day rule worked well in the past. Using the 25-day rule today, December corn is theoretically short and would turn long with a close above $3.95 3/4, if it happened.

Another common way of tracking price trends is through the use of moving averages. Since we are about to head into another potentially volatile growing season, I thought it was a good time to take a closer look at this popular market tool.

All methods have pros and cons. In addition to being a good way to track price trends, one of the things I always liked about moving averages is that they offer a relatively low-risk way to trade a market. The traditional approach is that one buys when the price closes above a moving average and stays long until the price closes back below the average, at which time one goes short -- a simple method that is always either long or short.

The frustrating part of trading with moving averages is that sometimes prices don't really go anywhere and can easily chop above and below an average several times. For traders trying to catch a move, that pointless zig-zagging can turn into an expensive form of trading hell.

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To minimize those times, I added one wrinkle to the research, which requires two consecutive closes to change a position. The adjustment proved worthwhile and significantly improved trading results for all four of the averages tested.

With that small change made, I compared hypothetical trading results for 40-day, 60-day, 80-day and 100-day moving averages, using continuous daily futures data for December corn, rolled to the next December contract on the final day of each November. Shorter moving averages were also looked at, but the number of trades increased so much that potential transaction costs ate up most of the gains.

The data spanned from 1996 through 2016 and showed that the 60-day average consistently outperformed the other three with a gain of $11.16 a bushel, or $55,800 per corn contract (not including commissions or slippage). The method averaged a gain of roughly 53 cents a bushel from 7.8 trades per year.

The size of the gain is modest for 21 years, but the consistency of the results is impressive as total returns from following the 60-day average led the other three averages nearly the entire period.

It should also be noted that following any of the four moving averages was better than a buy-and-hold approach. In terms of total return, the 40-day average was the worst of the four, hypothetically earning $6.86 a bushel (before commissions and slippage) on 224 trades. One contract of December corn, on the other hand, held perpetually and rolled on the final day of each November, would have lost $2.94 a bushel, or $14,700 per corn contract, over the same 21 years.

For corn producers not interested in trading both sides of the market, the 60-day average also offers benefits for hedging. Using the two-day rule described above, theoretically going short when prices fell below the 60-day average and staying short until prices showed two consecutive closes above the average yielded a gain of $7.04 a bushel from 82 trades over the 21 years covered. Averaged out, that's a gain of 33 cents a bushel on slightly less than four trades per year and is also a big improvement over the cost of owning corn perpetually.

Personally, I still favor Donchian's 25-day rule for its ability to identify a trend while minimizing the number of trades. But the popularity of moving averages is understandable, especially if one uses the two-day rule described above. Similar to last summer's Donchian research, moving averages provide more evidence that paying attention to price trend is vital, and it also helps to understand that not all averages are created equal. As of Friday, December corn closed at $3.92 1/2, a little above the 60-day average at $3.87 1/2.

Todd Hultman can be reached at Todd.Hultman@dtn.com

Follow Todd Hultman on Twitter @ToddHultman1

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Todd Hultman