Lean hog futures have been on a slippery slope since the bull market rally ended in July 2014. The nearby futures contract went from a historical high of $133.875 per hundredweight to $57.775, losing 57 per cent of its value in only nine months.
To put the enormity of this collapse in perspective, it took the market four years and nine months to rally from $57.775 to $133.875 and only nine months to drop back down to $57.775.
The fact markets can decline so swiftly is one of the reasons we recommend producers lock in prices on the way up the hill. Once prices fall off the cliff, producers generally set their price targets above the market, in hopes of catching the previous high. However, as the market accelerates downward, hopes are often dashed when their pricing orders go unfilled with each bounce being progressively lower than the last.
A bear market can be described as a market that is putting in lower highs and lower lows. The trend remains down until the market starts making higher highs and higher lows.
Identifying the trend is the basis for developing a selling strategy. Once a bear market is established, a common strategy is to place sell orders at points of resistance.
Resistance is a term used to describe a price level where the selling of futures contracts is expected to noticeably increase and at least temporarily halt the current direction of the market. This could be a previous high, a fibonacci retracement, a congestion area or even a gap.
After a significant drop in price, a market will rebound in an attempt to go up and fill a gap that occurred on the way down. A gap is an area on the chart where no trading occurs. In this instance, prices opened below the prior week’s low so it is considered a downside gap and it’s an indication of additional weakness.
In March 2015 the nearby lean hog futures chart turned up from the low at $57.775 and rallied $27.350 per hundredweight before running into an area of resistance in May 2015 at $85.125. Resistance here is the gap between $83.850 and $86.450.
On May 29, 2015 not only did the futures rally into resistance, but a reversal pattern called a doji developed, indicating a possible downturn. This is illustrated in the accompanying chart. A reversal pattern appearing at a point of resistance is further verification a market is about to turn back down.
A doji is a candlestick formation that has the same opening and closing price. It is a point of indecision with neither the bulls nor the bears gaining the upper hand as the market closes at the same price it opened.
A doji can also indicate a market is about to reverse direction. This is more significant when the doji candlestick pattern occurs after a significant move to the upside and is at resistance.
In this example, the following week’s action proved to be bearish with the market closing below the prior week’s low, which is an indication to make a sale in anticipation of a downturn.
Price advances need buying in order to be sustained. The market advances until all the potential buyers have been satisfied. At this point, the market begins to fall under its own weight as recent longs sell to liquidate their positions and new shorts enter the market.
In the normal ebb and flow of the market some of this selling is satisfied when prices rebound. However, not all orders above the market are filled, so these sellers become more aggressive and lower their offers on the next rebound for fear of missing the next downturn. This causes the market to have lower highs and lower lows.
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