In the past, key commodities markets like gold and oil were the only ones you would hear mentioned in the mainstream press.

Again, all of this has changed, as the commodities markets have evolved. One sector that was mainly reserved for farmers and professional speculators was the grain markets. With the resurgence of ethanol and biofuels, these markets have suddenly become more precious than gold.

Let’s take a look at a few grains, and show you how to use them to your advantage…

Corn’s Explosive Run Won’t Stop Anytime Soon

Ethanol, ethanol, ethanol. In the last few years, due to the ethanol craze, the grains everyone’s heard about are corn and soybeans, and these grains are the most actively traded.

Corn has absolutely been on an explosive run, and the cash and futures prices are soaring, allowing savvy investors to make a fortune playing corn directly. The main cause is the ethanol plants springing up right and left across the country. It’s almost as though you can’t turn on the TV or pick up a magazine without hearing or reading about it. The demand for ethanol is real, and even though the science of ethanol is still questionable, the reality is that it’s now the primary blending ingredient for gasoline. Ten percent ethanol is pretty much standard now at the gas pump, and in many states, E85 is taking hold. E85 is 85% ethanol.

While the arguments rage on about whether or not ethanol is the answer to our fuel needs, the demand is already here. Until there is a viable alternative or a repeal of the 54-cent sugar tariff in the U.S., corn-based ethanol is here to stay, even though there are other alternative energy sources that are much more efficient.

So clearly, corn and sugar are two commodities destined for much higher prices. In the rush for corn and soybeans, one grain that’s being overlooked is wheat.

Can You Really Profit Trading Wheat? YES!!

Wheat is one of those commodities that isn’t sexy. It’s not gold and it’s not oil, so it’s not that exciting to talk about at the club — but there is real money to be made in the wheat market right now…my readers of Resource Trader Alert have been able to make 62%, 68% and even 174% from the options I’ve recommended on wheat.

Still, very few people are talking about wheat — at least for now — and that’s good news.

I grew up in Minneapolis, Minnesota, born and bred. Minneapolis happens to boast the largest cash grain market in the world. There is a small futures exchange and it trades wheat. Chicago also trades wheat and is where I usually suggest you trade. However, wheat is also traded in Kansas, and although the market is a bit thinner, it can sometimes work to your advantage. Some of the best markets to trade are the ones you never hear about in the mainstream. With the grain markets moving so fast even wheat is picking up steam and the trading action is like a tornado.

Kansas City wheat is the second most actively traded wheat contract after Chicago. The reason the KC wheat is special is that it’s the hard red winter wheat. This type of wheat accounts for about 45% of total wheat production in the U.S. and is a higher quality wheat that’s used to make food products. It’s more easily refined and milled.

Last summer, the United States Department of Agriculture said 49% of the spring wheat crop was already harvested and only 32% of it was rated good to excellent. That’s down from 67% a year ago. This year may be even worse, and demand is growing.

The situation gets even grimmer as the United Nations Food and Agriculture Organization is reporting that nearly two-thirds of the winter wheat crop in western and northern China has been wiped out by a prolonged drought. Some other areas have experienced a 40-50% cut in the winter wheat harvest.

The rumbling in the pits is that red winter wheat, while volatile, is one of those crops that simply will go higher in the long term, due to increased demand and ever-decreasing supply. Sounds like a good time to buy.

These Forgotten Grains Could Bring Big Gains

The grains used to be pretty obscure to most investors, and certainly there were no respectable Wall Street traders who looked at corn charts (or at least admitted it). Now if traders aren’t looking at the grain charts, they’re considered strange, so times change.

Other than corn, sugar, soybeans and wheat, there are many other smaller grain markets for the more aggressive investors who want to do their research and take a little more risk.

Canola, oats and a more mainstream commodity like rice are all more markets to take a look at. Personally, of the three, I would look at rough rice. The futures contract is pretty liquid, relatively speaking, and it can be a good-trending market. It certainly doesn’t get as much attention as corn or soybeans, but that can be a good thing.

Sure, corn and soybeans will remain the front-runners in the grain race, but the rush for profits and the ethanol hysteria (like the new gold rush) is far from over.

I could list about 50 more reasons to buy grains right now, but the bottom line is that these markets are very strong and this trend is likely to continue.

The grain charts have risen so fast they will give you a nosebleed if you look at them, but don’t let that deter you as bull markets often have charts like that. As always, use protective stops and a strong defensive trading strategy in these markets, because a correction is always possible.

Yours for resource profits,
Kevin Kerr

June 8, 2007

Trading Grains Can Deliver Serious Gains was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.

Oh I wish I had a barrel of rum, and sugar 3,000 pounds,
A college bell to put it in, and the clapper to stir it ’round,
I’d drink to all the good fellows who’d come from far and near,
I’m a rambling, gambling, Hell of an Engineer! Hey!

WE RECEIVED SO MUCH e-mail about last week’s article on using corn to produce ethanol that I was actually humming the whiskey-drinking Georgia Tech fight song to myself. Those of us who put together Whiskey & Gunpowder are fortunate to have such a great and thoughtful group of readers. Thank you for taking the time to write. I just wish that you would tell us your location (state, province, or foreign country) when you send us e-mail. Allowing for some editing due to space, and my comments on occasion, here is what some of "the good fellows" (and sisters) who wrote had to say:

From Herbert in Ohi "If agricultural product-based material becomes the source of transportation fuel, the price of oil will set the price of food. We have been warned. At least we can’t claim it will fit into the law of unknown consequences when it happens."

From Betty, Location Unknown: "Why doesn’t The New York Times say something about the fact that corn is one of the less-efficient sources of ethanol. It has to be processed twice as much as other sources, such as prairie grass, which will never compete for food dollars. The fact is that corn is far likelier to go up in price than it would if not sought after as a substitute for gas, and that nobody speaks about the greed of the agricultural industry. Signed, Disgusted."

Byron’s Comment: Betty, you will have to ask the editors of The New York Times why they do what they do. But if anyone from that newspaper ever writes us a letter, we will publish it. And I do not believe that there is an economic method, just yet, for transforming prairie grass into ethanol. But I know that some very smart people are working on it.

From Gary, Location Unknown: "First of all, again, thank you for the BEST commentary letter on the Internet even when you do get a little conservative! A major thanks for forthrightly challenging the corn-ethanol crowd. That position ranks as one of the most incredibly immoral decisions the U.S. and Europe have made. The production of ethanol from a valuable food crop, with an effective loss of several times the energy value as food versus the energy value as ethanol burned in internal combustion engines, is indefensible. This is true even ignoring [the] point of how little the impact [ethanol will have] in reducing our oil requirements. However, the crowning blow to the logic is the fact that the corn-to-ethanol cycle, when fully evaluated, uses more fossil fuel energy than that resulting from the produced ethanol."

Byron’s Comment: Try this on for size, Gary: When you compare the energy content of a gallon of ethanol versus a gallon of gasoline, you are just comparing the unburned fuel itself. Ethanol contains less than 60% of the energy content of gasoline. So the physical chemistry is what it is. But when you burn either ethanol or gasoline in an automobile engine, your overall energy efficiency plummets even further. Less than 15% of the energy that is released in the cylinders during internal combustion ever reaches the wheels. And much of the energy that is exchanged where the rubber meets the road is used to accelerate several thousand pounds of metal and plastic. The ultimate fuel efficiency that results from moving the human driver and passengers in your standard passenger car is down around 1% or 2%. That is just pitiful, really.

From Ted in Minnesota: "The entire 2004 U.S. corn and soybean crop, converted to biomass fuels, could replace about 10.41 billion gallons of petroleum (7.6 billion as ethanol and 2.81 billion as biodiesel). Petroleum is measured in 42-gallon barrels; the 10.41 billion gallon biofuel total would be equivalent to 248 million barrels of petroleum. The U.S. consumed about 7.49 billion barrels of petroleum in 2004, or about 20.5 million barrels a day. This means that the total biofuel potential of the record 2004 U.S. corn and soybean harvests would offset about 12 days of U.S. petroleum consumption, or about 3.3% of our total yearly petroleum consumption. Given that most of the U.S. corn and soybean crop is already committed to other uses, this analysis indicates that biomass-based fuels will have a negligible role in reducing U.S. petroleum consumption, which in turn underscores that replacing petroleum in the U.S. economy will be a monumental challenge."

Byron’s Comment: This is an excerpt from a much longer letter that Ted included in his e-mail to us, referring to a summary of energy balances that he wrote and submitted to the Oil & Gas Journal in July 2005.

From Nick in Iowa: "I am a farmer from Iowa that just read your article about the ethanol energy story and wanted to clarify a couple of things. First, it’s unlikely that ethanol will cause U.S. consumers to run short of food. There is a large amount of a byproduct called dry distillers grains (DDS) from the production of corn-based ethanol. It’s a made-to-order cattle feed and can also be fed in smaller quantities to swine and poultry. Feeding livestock will become a little more expensive, but will not contract in large measures. Also, the raw grain price in consumer foods is minuscule. Typically, the price of raw grain makes up 5% of the consumer retail price. For example, the cardboard box costs several times more than the corn in the retail price of corn flakes. Overall, retail food prices could creep up a little, but are unlikely to cause any severe rationing at the grocery store.

"Second, the impact on the U.S. balance of trade won’t be that great. There’s no question that U.S. exports of corn will fall, possibly dramatically. However, large exports of cheap corn have had little overall impact on the trade deficit, compared with the large imports of high-priced consumer goods and, of course, huge quantities of high-priced petroleum. Granted, ethanol will not improve the trade deficit to any great extent, either.

"Third, the tax breaks provided to the ethanol industry pale in comparison with the massive expenses the U.S. Treasury lays out to subsidize the high-production farm programs. High-priced commodity prices enable farmers to make decisions about their farms and livelihoods from the market, and not the government. I am a free-market person and am no advocate of the farm programs. However, I also do not agree with subsidizing the petroleum industry through our military budget. If the true cost of foreign oil were priced on the retail pump, ethanol’s true value would be easier to ascertain.

"Finally, I do agree with you that corn-based ethanol is only one small part of the energy equation. This nation obviously needs a more realistic and comprehensive energy policy, regardless of the impacts of ethanol. Even Iowa farmers know that petroleum prices are still very integral to our cost structure in fuel, pesticides, and fertilizer. I appreciate your continued effort to keeping everyone’s focus on the big picture of energy, and I always look forward to your next essay."

Byron’s Comment: Thank you for your kind words, Nick. You are making an important point about DDS being used as cattle feed. Many ethanol plants are located near cattle feeding operations. Thus, the "mash" that is left over is being sold as cattle feed. But no less an authority than the CEO of Tyson Foods recently commented that U.S. consumers would soon be seeing an increase in the price they pay for meat and meat products due to the rising cost of grain. A recent news article from the Associated Press noted:

"Ethanol plants and foreign buyers are gobbling the nation’s corn supplies, pushing prices as high as $3.40 a bushel, the U.S. Department of Agriculture said Friday [Jan. 12, 2007]. Farmers have not seen prices this high in more than a decade."

I sympathize with your comments about the state of the "free market" in the U.S. There are so many monetary, fiscal, legislative, and regulatory aspects to the U.S. economy that it is hard to know where regulation stops and the free market begins. To paraphrase Sigmund Freud, "What does the free market really want?" Nick, you are not alone in your view on this. Read the next letter.

From Roger in Delaware: "We all know ethanol is next to useless as fuel. Why didn’t you bring up the point that the only reason these plants are being built is they are government subsidized? The free market has no interest at all in alcohol as fuel, because it just doesn’t work. This whole thing is another government fiasco by the liberals and neocons. Private industry has no interest here."

Byron’s Comment: Roger, I think you are overstating the case. Ethanol has many good uses. There is even a NASCAR program to run racing cars on ethanol. Yes, there is a lot of government subsidy to the ethanol industry, such as the mandates to use ethanol as a fuel additive, even if it gums up your engine. And there are tax breaks for ethanol, such as exempting it from highway taxes, as if vehicles that use ethanol do not use the same highways as the rest of us. But it is clear that a lot of private funding is moving into ethanol production. So let’s follow the money. Are we watching the formation of an "ethanol bubble" to mirror the tech bubble of 1999-2001, or the housing bubble of 2003-2006? All I can say about that just now is to be careful about investing in things that you do not understand. The next letter makes the point.

From Joseph in North Carolina: "Ethanol on the first 10 billion gallons [of gasoline] per year is more about E-10 and less about E-85. Spot prices per bushel of corn are high, and so farmers will grow more, especially if they know they can get at least $2.50 per bushel. In North Carolina, farmers need a reason to grow something other than tobacco. Current spot prices are close to $4.

"Like you suggest, the ethanol supply is a drop in the bucket to U.S. [energy] consumption. Corn-based ethanol is just one small piece of the puzzle to U.S. energy independence. Some of those plants you mention may never get built or fail outright."

Byron’s Comment: These are good points, Joseph. The U.S. needs to have a serious national policy discussion about its future sources and uses of energy in general, and transportation fuel in particular. But I have heard otherwise serious people say really dumb things like, "We can run our cars and trucks on ethanol." No, we cannot do any such thing.

The fastest, cheapest, most readily available source of "new" energy supply for the U.S. economy is conservation and efficiency. That is one of the key points that I wanted to make in the article on the rush to construct ethanol plants and distill corn into fuel.

There are many other letters, and we will review some of them in Part II of this discussion. Thank you for reading Whiskey & Gunpowder.

Until we meet again…
Byron W. King

January 16. 2007

Letters to the Editor: Ethanol, Part I was originally featured on Whiskey and Gunpowder. Visit Laissez Faire Books for the best selection of libertarian book titles.