Kub's Den

Could the Robinhood Retail Revolution Come for Ag Commodities?

Elaine Kub
By  Elaine Kub , Contributing Analyst
The size of ETF positions in the agricultural commodity markets is overwhelmingly dwarfed by the participation of bona fide hedgers, but some smaller markets could theoretically become vulnerable to the internet-fueled fads of $0 commission traders. (Graphic by Elaine Kub)

Looking at the current makeup of the soybean futures market, the vast majority of participation is coming from bona fide hedgers (farmers, elevators, processing plants) with some of the rest coming from "managed money" traders, such as hedge funds or commodity trading advisers. There are various other categories of traders who could be playing along, too. But when it comes to the little David "retail traders" (who have made headlines lately by short-squeezing Goliath hedge funds), yes, they can get involved in agricultural commodity markets, but their positions represent less than one-tenth of 1% of the total open interest in these markets.

Anyone who has ever played the card game "Pit" knows to corner a market you need to control the majority of the market positions. That's easier to do when the market is small -- like the markets for the stocks of GameStop, AMC Entertainment or BlackBerry.

Heaven knows short squeezes do happen in agricultural commodity markets and the sector has its share of relatively small, illiquid markets. Think of the oat futures market, which had 4,709 contracts of open interest in the last CFTC Commitments of Traders report; or cash-settled butter futures (9,522 contracts of open interest); or the new pork cutout futures (1,291 contracts of open interest). Frozen concentrated orange juice futures (10,430 contracts of open interest) would, of course, be the natural star of this comedy, reprising their role from Trading Places. A group of internet commenters probably could, with enough planning and motivation, influence the price of oat futures up or down for a while ... at least until the contract becomes subject to physical delivery.

However, this doesn't need to be a major source of anxiety for agriculture just yet. For one thing, the Reddit army (the internet commenters behind the GameStop short squeeze) have no particular motivation to set their sights in this direction. More importantly, the mechanisms for them to trade oat futures or orange juice futures are considerably more complex than trading GameStop shares at $0 commission per trade. Trading commodity futures and options takes more than downloading the Robinhood app on their phones and pushing a few buttons.

Retail investors are able to trade commodities, to be sure, through commodity trading advisers (CTAs) or individual brokerage accounts. But the CFTC regulates those CTAs and brokerages to make sure they're screening customers for their sophistication and ability to withstand financial risk.

Last week, when the Robinhood app began to limit its customers from making trades in GameStop and other stocks, some Reddit commenters sarcastically complained they were being thwarted because "Wall Street thinks we're too poor and dumb to lose our money." Well, when the CFTC guides who can or cannot trade commodity futures, it really is preventing the poor and inexperienced from getting thwacked by the volatility of commodity futures and options positions leveraged with margin. Commodity futures are ultimately backed up by physical inventories and that means there's too much at stake for the CFTC to allow the orderly movement of natural gas through the energy industry's pipelines, or corn through the agriculture industry's warehouses to get disrupted by some unsupervised day trader's ambition.

Now, there is a commodity upon which the Robinhood/Reddit army is attempting another short squeeze, and that's silver. Apparently, taking out one hedge fund wasn't fully satisfying, and now they've decided the big Wall Street banks themselves, which currently hold large short futures positions in silver, need to be punished. In the days since this fatwa was declared, Comex silver futures prices did indeed surge 20%; although they've pulled back, they're still above $26 per ounce on Tuesday afternoon. The quest isn't likely to be much more successful than that, however, because the commercial hedging position (the banks' position) in silver futures is just so overwhelmingly large and it's backed up by ownership of physical silver.

The only way a Robinhood user can even dabble in the silver market is through an ETF -- an exchange traded fund -- which is a financial fund, traded on a stock market, that replicates or simulates the same performance as some underlying asset. So, in the case of the iShares Silver Trust ETF, for instance, the Robinhood users buy a position in that ETF and then the ETF turns around and buys equivalent positions in silver futures and manages the margin position. Robinhood users themselves, with their $0 commissions, cannot directly trade commodity futures and options. To my knowledge, there is no other app where retail traders can buy and sell commodity futures and options for $0 commission and $0 margin (but cue an army of Twitter commenters pointing out their favorite brokerages ... hit me up @elainekub).

Therefore, I think participants in the agricultural commodity futures markets should sleep soundly at night without worrying that an internet fad is going to spark undue volatility in our prices. Yes, there are some commodity ETFs that Robinhood users can buy with $0 commissions, but their size is overwhelmingly dwarfed by the positions of bona fide hedgers. The iShares Commodities Select Strategy ETF (symbol: COMT), with a market cap of $233 million, holds corn, soybeans, wheat, cotton, lean hogs, live cattle and feeder cattle, alongside all the other various energy and metal commodities. But only 4% of the fund is allocated to soybeans, for instance -- a notional value of $9.9 million, or the equivalent of 172 long soybean futures contracts. Similarly, the Aberdeen Standard Bloomberg All Commodity K-1 Free Strategy ETF (symbol: BCI), with a market cap of $374 million, holds some agricultural commodity futures in its portfolio. But the 7.06% it allocates to the soybean market is equivalent to 458 soybean futures contracts. Even together, those two commodity ETFs' positions are a tiny drop in the bucket compared to the overall size of the soybean futures market: 934,794 contracts of open interest.

I have no idea how much money from those two ETFs came from Robinhood users, but the scale of participation is similar for corn, wheat, cotton, coffee, hogs, etc. These ETFs are intentionally designed not to get mixed up in the smaller, less liquid markets like oats and butter. To my knowledge, there is no oats-specific ETF in the way there are silver-specific ETFs. So, there's no way Robinhood traders can get into the oats market commission-free and margin-free. However, I will point out that the iShares Commodities Select Strategy ETF does allocate 1% of its portfolio into the feeder cattle futures market (equivalent to 40 contracts out of the market's 40,324 total open interest), which feels like it might be small enough on certain days to become vulnerable to the swings and vagaries of retail investors' ETF purchases.

As with most things, the number of headlines about a topic doesn't necessarily reflect the reality of the phenomenon. It's a matter of scale and most (but not all) agricultural commodity futures markets are way too big to be shifted by today's entertaining investment craze.

Elaine Kub is the author of "Mastering the Grain Markets: How Profits Are Really Made" and can be reached at masteringthegrainmarkets@gmail.com or on Twitter @elainekub.

Elaine Kub