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How and Why I Trade the Commodity Futures Markets – What I am Doing Now Victor Adair Senior Vice President / Derivatives Portfolio Manager MF Global Canada Co . Mike Campbell’s Survive and Thrive Investment Conference Vancouver, BC November 1, 2008. Program Outline. Macro Market Opinions

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How and Why I Trade the Commodity Futures Markets – What I am Doing NowVictor AdairSenior Vice President / Derivatives Portfolio ManagerMF Global Canada Co.

Mike Campbell’s Survive and Thrive

Investment Conference

Vancouver, BC November 1, 2008.


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Program Outline am Doing Now

  • Macro Market Opinions

  • Why I trade Futures and Options

  • How I trade / manage risk

  • Markets I am watching now

  • Personal: Cautious. Savings. Trading. Income. In cash too early. No leverage. Wait for bargains.


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Disclaimer am Doing Now

  • This presentation is for information purposes only

  • Trading derivatives (futures, options, foreign exchange) involves risk of loss

  • Investments can go up as well as down and involve the risk of loss

  • Past performance will not necessarily be repeated in the future

  • MF Global Canada Co. is a member of the:

    • Investment Dealers Association

    • Canadian Investor Protection Fund

    • Toronto Stock Exchange

    • Montreal Exchange

    • Winnipeg Commodity Exchange


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Macro Market Opinions am Doing Now

THEN:

Credit Boom = Asset Boom + High Risk Tolerance

  • Many years of low interest rates / easy money / rising asset prices fuelled a consumer spending boom and an attitude

  • Reaching for yield / don’t want to be left behind

  • Borrowers and Lenders - pushed the envelope on risk

  • NOW:

  • Lenders: less willing or able to lend

  • Borrowers: less willing or able to borrow

  • Risk being avoided – not embraced


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Macro Market Opinions am Doing Now

  • Asset price gains from 2001 to 2007 were extraordinary – not normal

  • Buy and hold is not good advice

  • Throw away your previous ideas about valuations and risk – this is a different world

  • Don’t buy something today because it is ½ price compared to what it used to be

  • Inflation is history – for now – deflation is the worry – for now

  • Inflation will come back

  • Be prepared for a lot more government in your lives

  • Stress = what’s the next shoe to drop? = Volatility

  • Something BIG will break…Euro? Country default?


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Macro Market Opinions am Doing Now

  • Real estate prices will continue to soften

  • Unemployment will rise

  • Previous economic growth came from rising consumption based on rising asset prices, borrowed money and leverage. That’s over.

  • Expect a “L” shaped economy

  • Expect real interest rates to rise

  • Financial markets will have “relief rallies” but a weak real economy will keep a lid on gains

  • Expect lots of garage sales and booming thrift store business

  • Demographics = Boomers will try to save more, spend less


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Marco Market Opinions am Doing Now

  • Commodities: bull market is over until the last “Johnny-come-lately” bull throws in the towel and promises to never return. Speculators fuelled most of the price increase

  • Currencies: incredible barometers of capital flows – 40% declines - will the Euro hold – US$ wins the least ugly contest

  • Stocks: a slow-motion (and sometimes not-so-slow) crash

  • Bonds: great battle ahead…Supply Vs. Demand

  • Volatility: new highs as a result of stress = opportunity. Learn option writing strategies


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Macro Market Opinions am Doing Now

  • Inflation / Deflation?

  • Credit crisis induced slowdown = deflationary

  • Monetary reaction = inflationary

  • Credit tightness = deflationary

  • Fiscal action = bigger budget deficits = inflationary

  • Demographic trends in West = deflationary

  • Rising US$ (?) = deflationary

  • Weakness in global economy = deflationary

  • De-coupling? Will the “Rest of the World” continue to grow if USA goes into a real recession? No = deflationary.


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Macro Market Opinions (Cont.) am Doing Now

  • We are all currency speculators now:

  • 6 years of US$ weakness = 6 years of commodity market gains

  • Currency trends overshoot + and make “V” shaped turns

  • Is the US$ rising?

  • Currency flows from risky to less risky – from the periphery to the center as the market seeks to avoid risk

  • 90% of Hungarian residential mortgages financed with Swiss Francs!


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Why I Like To Trade Futures and Option Contracts am Doing Now

  • Mike Campbell interviewed Jim Rogers on Moneytalks Radio in October 2003

  • Jim said, “The best way to trade commodities is with futures contracts. But most retail traders use way too much leverage.”

  • Following that interview I wrote “Five Reasons Why Futures Contracts Give You a Powerful Advantage” posted on: www.VictorAdair.com


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Why I Like to Trade Futures and Options Contracts – (cont.)

  • Efficient

  • Transparent

  • Pure Play

  • Variety

  • Leverage

  • Easy to go short, open 24 hours, regulated market


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What is a Futures Contract? (cont.)

  • Specified unit of trade with an expiry date

  • Example: December 2008 Gold Futures Contract

  • 100 troy ounces / specified quality and delivery location

  • First Notice day: November 30, 2008

  • Value of the contract at $800 oz = $80,000

  • Minimum initial performance bond, approx. $7,000

  • Leverage = 11:1


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How I trade (cont.)

  • I develop Global macro opinions

  • I may be100% in cash or up to 4x leverage

  • I read a lot of different research – www.VictorAdair.com – to form my opinions

  • I’m not a day trader but I watch the markets all day

  • Opinions – necessary (you have to have the courage of your convictions) and dangerous (you have to give up quickly when proven wrong)

  • I try to anticipate a trade before it is time to make the trade – then I’m ready when its time to pull the trigger

  • I need a technical confirmation that my opinion may be right before I execute


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How I trade – (cont.) (cont.)

  • I trade like a mercenary – (Dennis Gartman) when markets change I change

  • I challenge consensus – “what if” the popular idea is wrong, has run its course?

  • I try to judge the mass psychology – who has a weak / strong position in the market?

  • Changing psychology – not math – moves markets

  • All markets are spreads – try to think like a spread trader – what is X worth relative to Y?

  • Markets are inter-related – but relationships change

  • Options: Current I.V. relative to history - Use alone or in combination with futures


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Managing Risk (cont.)

  • I know practically nothing and cannot predict the future

  • Most likely risk: my opinion is wrong

  • Anything can happen

  • Patience – sitting in cash is OK

  • Add to winners, never add to losers

  • I know where I will get out (if I’m wrong) before I get in

  • Write down my reasons


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Managing Risk – (cont.) (cont.)

  • Max loss 1% – 2% per trade / use low leverage

  • Accept that most of my trades may lose money

  • No big losses, occasional big wins

  • Relationships between markets change, but markets always influence one another

  • Be aware of my prejudices – foundation of all opinions

  • Without risk management the road to the Poorhouse is paved with fine opinions

  • See: How To Be A Better Trader – www.VictorAdair.com


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Options trading ideas (cont.)

  • Option volatility is extremely high. Learn option selling (writing) strategies:

  • 1) you like a stock/commodity at today’s price. Write a put option on it, collect the premium. If you get put you own the stock/commodity at a better price, if you don’t get put you keep the premium. Repeat.

  • 2) you like a stock/commodity at today’s price. Buy it and write a call against it. if you don’t get called you own the stock/commodity at a better price, if you get called you make a short term profit. Repeat.

  • 3) Write both calls and puts at the same time – look for the market to trade sideways. Repeat.


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Yield on US 10 Year Note Futures Contract (cont.)Falling Interest Rates Helped Boost Asset Prices


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Dow Jones Industrials Stock Index (cont.)(Falling Interest Rates Helped Boost The Stock Market)


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Average US Real Estate Prices (cont.)(Falling Interest Rates Helped Boost Real Estate Prices)



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Commodity Index: (cont.) 6 years of a bear market in US$ = 6 years of a bull market in commodities – until Summer 2008!



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Euro Currency Vs. US$ (cont.) : A Major Turn?


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US Dollar Index: (cont.)Psychology was extremely negative


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Euro Vs. Japanese Yen (cont.): Risk thermometer, week to week ups and downs very similar to ups and downs of G7 stock markets


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New Zealand Dollar Vs. Japanese Yen: (cont.) another risk thermometer



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Gold Reciprocal (cont.) – are we pre-programmed to see bull markets? If this is a bull market then gold price is falling


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Gold / Crude Oil: At least a 25 year low this past summer: (cont.)all markets are spreads. What is X worth in terms of Y?


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Copper: (cont.) Does copper have a Phd in economics? Base metals have been weak (no kidding!!) lately (Speculators exit stage left??)


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Crude Oil (cont.) – Did “Investors” pile into the energy markets? Did rising global demand account for a tripling of prices in 18 months?


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Corn: (cont.) global demand for better food, ethanol, funds – prices hit all time high prices – what changed to cause prices to fall 50%?


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Deere & Company (cont.): Another way for the public to play the Agricultural boom – Yikes!!



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Philly Bank Share Index: (cont.) started to fall from all time highs before the “credit crisis” became front page news


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Philly Housing Sector Index (cont.): The top was made well before the problems of the US housing market became front page news


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Starbucks (cont.): Is the consumer cutting back on non-essentials? Duh!!




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Chicago Mercantile Exchange creates new trading opportunities: it was a “triple play” on rising stocks, commodities and exchanges – what happened?


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Summary creates new trading opportunities

  • The Credit Boom produced an Asset Boom + a great Appetite for Risk – This fuelled a Global Economic Boom driven by Consumer Spending – the markets are now reversing this trade!

  • Why I like to trade Futures and Options

  • How I trade / manage risks

  • Ultra-high option volatility creates opportunities to write options

  • Markets I am watching now – looking for trading opportunities

  • Be cautious – things have changed – wait for bargains

    www.VictorAdair.com


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