Futures Fundamental Analysis

by Schwager, Jack D.; Turner, Steven C.

• ISBN13: 9780471020561
• ISBN10: 0471020567
• Edition: 1st
• Format: Hardcover
• Copyright: 1995-05-29
• Publisher: Wiley

Summary

Written by a foremost authority and one of the bestselling authors in finance. The most comprehensive book on futures trading, A Complete Guide to the Futures Markets, is now divided into three volumes--this is the first. It provides readers with a synthesis of market analysis as well as practical trading considerations. Analytical techniques are evaluated within the context of the existing world of trade.

Author Biography

Jack D. Schwager is Director of Futures Research and Trading Strategy at Prudential Securities. He formerly held similar positions at PaineWebber and Smith Barney, with a total of twenty-one years experience heading up futures research departments. He is also a Commodity Trading Advisor and one of the co-principals of Wizard Trading. Mr. Schwager is the author of the highly regarded A Complete Guide to the Futures Markets, published by Wiley, and the bestselling Market Wizards, and The New Market Wizards. His writing has appeared in many publications including the Handbook of Futures Markets, Trading Tactics, and Commodity Research Bureau Yearbook. Much in demand as a speaker, he has lectured on a range of analytical topics, with a particular focus on great traders, technical analysis, and trading system evaluation.

Table of Contents

PART ONE: PRELIMINARIES
The Great Fundamental versus Technical Analysis Debate	3	(4)
For Beginners Only	7	(20)
Purpose of This Chapter	7	(1)
The Nature of Futures Markets	7	(1)
Delivery	8	(1)
Contract Specifications	9	(2)
Volume and Open Interest	11	(1)
Hedging	12	(6)
Hedging Examples for a Commodity	12	(3)
Hedging in Financial Futures	15	(1)
General Observations Regarding Hedging	16	(2)
Speculation	18	(1)
Types of Orders	19	(3)
Commissions and Margins	22	(1)
Tax Considerations	22	(5)
PART TWO: FUNDAMENTAL ANALYSIS
Fourteen Popular Fallacies, or What Not to Do Wrong	27	(14)
Five Short Scenes	27	(2)
Scene 1	27	(1)
Scene 2	28	(1)
Scene 3	28	(1)
Scene 4	28	(1)
Scene 5	29	(1)
The Fourteen Fallacies	29	(12)
Viewing Fundamentals in a Vacuum	29	(1)
Viewing Old Information as New	30	(1)
One-Year Comparisons	30	(1)
Using Fundamentals for Timing	31	(1)
Lack of Perspective	31	(1)
Ignoring Relevant Time Considerations	32	(1)
Assuming That Prices Cannot Decline Significantly Below the Cost of Production	32	(1)
Improper Inferences	33	(3)
Comparing Nominal Price Levels	36	(1)
Ignoring Expectations	36	(1)
Ignoring Seasonal Considerations	37	(1)
Expecting Prices to Conform to Target Levels in World Trade Agreements	38	(1)
Drawing Conclusions on the Basis of Insufficient Data	38	(1)
Confusing the Concepts of Demand and Consumption	39	(2)
Supply/Demand Analysis: Basic Economic Theory	41	(16)
Supply and Demand Defined	41	(4)
The Problem of Quantifying Demand	45	(1)
Understanding the Difference Between Consumption and Demand	46	(3)
The Need to Incorporate Demand	49	(2)
Possible Methods for Incorporating Demand	51	(5)
Why Traditional Fundamental Analysis Doesn't Work in the Gold Market	56	(1)
Types of Fundamental Analysis	57	(16)
The ``Old Hand'' Approach	57	(1)
The Balance Table	57	(1)
The Tabular and Graphic Approach	58	(9)
Regression Analysis	67	(1)
Econometric Models	68	(1)
The Analogous Season Method	69	(1)
Rank Classification Method	69	(1)
Index Models	70	(3)
Applying Technical Analysis to Fundamental Data	73	(28)
Methods of Trend Definition	73	(1)
A Practical Example	74	(4)
Detrending Data	78	(6)
The Need to Incorporate Data Lags	84	(6)
Measuring Time Lags	90	(4)
The Danger of Optimization	94	(2)
Lags for Data Availability	96	(1)
Weighting the Indicators	96	(1)
An Example of an Index Model	97	(3)
A Final Caveat	100	(1)
The Role of Expectations	101	(7)
Using Prior-Year Estimates Rather Than Revised Statistics	101	(4)
Adding Expectations as a Variable in the Price-Forecasting Model	105	(1)
The Influence of Expectations on Actual Statistics	106	(1)
Defining New-Crop Expectations	107	(1)
Incorporating Inflation	108	(7)
Seasonal Analysis	115	(34)
The Concept of Seasonal Trading	115	(1)
Cash versus Futures Price Seasonality	115	(1)
The Role of Expectations	116	(1)
Is It Real or Is It Probability?	116	(1)
Calculating a Seasonal Index	117	(9)
Average Percent Method	117	(4)
Link Relative Method	121	(5)
Segmented Seasonals	126	(4)
Deseasonalizing Data	130	(4)
Maximum Gain/Maximum Loss Seasonal Comparisons	134	(1)
Counterseasonal Price Action	134	(2)
Chart Detection of Seasonalities	136	(12)
Conclusion	148	(1)
Market-by-Market Seasonality	149	(35)
Interpreting the Tables in This Chapter	149	(1)
Interpreting the Charts in This Chapter	150	(1)
A Word About the Price Data Used in Constructing Seasonal Indexes	151	(1)
Caveats in Using Seasonal Information for Trading	152	(1)
Seasonal Tables and Charts	152	(32)
Analyzing Market Response	184	(12)
Evaluating Market Response for Repetitive Events	184	(6)
USDA Hogs and Pigs Report	184	(5)
October Orange Production and Yield Estimate	189	(1)
Counter-to-Anticipated Market Response	190	(6)
Repetitive Events	190	(3)
Isolated Events	193	(3)
Government Programs and International Agreements	196	(20)
A Focus on Price Influence	196	(2)
U.S. Agricultural Policy: A Conflict of Goals	198	(1)
Acreage Programs	199	(3)
Acreage Reduction Program	199	(1)
Normal Flex Acreage	200	(1)
Optional Flex Acreage	201	(1)
Paid Land Diversion	202	(1)
The Price-Support Loan Program	202	(4)
Basic Loan Rates	203	(3)
Target Prices and Deficiency Payments	206	(1)
Marketing Loan Program	206	(1)
Farmer-Owned Reserve	207	(2)
Import/Export Controls	209	(1)
Export Support Programs	210	(1)
Summary: Domestic Government Programs	211	(1)
International Agreements	212	(2)
Bibliography	214	(2)
Building a Forecasting Model: A Step-by-Step Approach	216	(4)
Fundamental Analysis and Trading	220	(21)
Fundamental versus Technical Analysis: A Greater Need for Caution	220	(1)
Three Major Pitfalls in Fundamental Analysis	221	(7)
Combining Fundamental Analysis with Technical Analysis and Money Management	228	(1)
Why Bother With Fundamentals?	229	(1)
Are Fundamentals Instantaneously Discounted?	230	(4)
Fitting the News to Price Moves	234	(1)
Fundamental Developments: Long-Term Implications versus Short-Term Response	235	(3)
Summary	238	(3)
PART THREE: A PRACTICAL GUIDE TO REGRESSION ANALYSIS
Introduction to Regression Analysis	241	(8)
Basics	241	(3)
Meaning of Best Fit	244	(2)
A Practical Example	246	(2)
Reliability of the Regression Forecast	248	(1)
A Review of Elementary Statistics	249	(25)
Measures of Dispersion	249	(2)
Probability Distributions	251	(6)
Reading the Normal Curve (Z) Table	257	(3)
Populations and Samples	260	(1)
Estimating the Population Mean and Standard Deviation from the Sample Statistics	260	(2)
Sampling Distribution	262	(2)
Central Limit Theorem	264	(2)
Standard Error of the Mean	266	(1)
Confidence Intervals	267	(2)
The t-Test	269	(5)
Checking the Significance of the Regression Equation	274	(19)
The Population Regression Line	274	(1)
Basic Assumptions of Regression Analysis	275	(8)
Testing the Significance of the Regression Coefficients	283	(1)
Standard Error of the Regression	283	(1)
Confidence Interval for an Individual Forecast	284	(2)
Extrapolation	286	(1)
Coefficient of Determination (r2)	287	(4)
Spurious (``Nonsense'') Correlations	291	(2)
The Multiple Regression Model	293	(13)
Basics of Multiple Regression	293	(3)
Applying the t-Test in the Multiple Regression Model	296	(2)
Standard Error of the Regression	298	(1)
Confidence Intervals for an Individual Forecast Yf	299	(1)
R2 and Corrected R2	299	(2)
F-Test	301	(2)
Reading the Computer Printout	303	(3)
Analyzing the Regression Equation	306	(41)
Outliers	306	(4)
The Residual Plot	310	(2)
Autocorrelation Defined	312	(1)
The Durbin-Watson Statistic as Measure of Autocorrelation	312	(3)
The Implications of Autocorrelation	315	(1)
Missing Variables and Time Trend	316	(11)
Transformations to Achieve Linearity	327	(3)
Transformation to Remove Autocorrelation	330	(2)
Heteroscedasticity	332	(2)
Dummy Variables	334	(6)
Multicollinearity	340	(7)
Practical Considerations in Applying Regression Analysis	347	(14)
Determining the Dependent Variable	347	(2)
Selecting the Independent Variables	349	(2)
General Considerations	349	(1)
Should the Preforecast Period Price Be Included?	350	(1)
Choosing the Length of the Survey Period	351	(1)
Sources of Forecast Error	352	(2)
Simulation	354	(1)
Stepwise Regression	355	(1)
Sample Step-by-Step Regression Procedure	356	(1)
Summary	357	(1)
References (Chapters Fifteen-Twenty) and Recommended Readings	358	(3)
PART FOUR: FUNDAMENTAL ANALYSIS APPLIED THE MARKETS
Forecasting Hog Prices	361	(14)
Projecting Supply	361	(3)
Demand Considerations	364	(1)
Price Forecasting Model 1	364	(5)
Price Forecasting Model 2	369	(1)
Allowing for Forecast Error	370	(1)
Projecting Price Highs and Lows	371	(1)
Price Forecasts and Trading	372	(1)
Conclusion	373	(2)
Forecasting Cattle Prices	375	(17)
Bill Gary
Consumption Is Entirely a Function of Production	375	(1)
Long-Term Supply Factors	376	(3)
Feedlot Inventories	379	(2)
Seasonality	381	(7)
Production Seasonality	382	(2)
Consumption Seasonality	384	(1)
Price Seasonality	385	(3)
Major Secular Changes in the Cattle Industry	388	(3)
Conclusion	391	(1)
Forecasting Grain Prices	392	(16)
The Stocks/Disappearance Ratio as a Key Fundamental Indicator	392	(3)
A Background Sketch of Wheat Fundamentals	395	(4)
Classes of Wheat	395	(2)
Production	397	(1)
Disappearance	397	(2)
Annual Wheat-Price-Forecasting Model	399	(5)
A Background Sketch of Corn Fundamentals	404
Production	404	(1)
Disappearance	404
Quarterly Corn-Price-Forecasting Model	401	(6)
Summary	407	(1)
Forecasting Soybean Prices	408	(25)
Anne Frick
The Analogous Season Study: A Fundamental Timing Approach	408	(2)
Background Sketch of Fundamentals	410	(6)
The Soybean complex	410	(1)
U.S. Soybean Production	411	(1)
U.S. Exports	411	(3)
Soybean Meal Usage	414	(2)
Soybean Oil Usage	416	(1)
Ending Stocks	416	(1)
Key Factors	416	(6)
Carryover Stocks	418	(2)
Production	420	(1)
Total Supply	420	(1)
Usage	420	(2)
Price Action	422	(1)
Combining Factors	422	(1)
Consistent Seasonal Patterns	422	(4)
Crop-Scare Rally High	423	(1)
Harvest Low	424	(1)
Postharvest High	425	(1)
February Break	425	(1)
Selection of Contracts for Seasonal Studies	425	(1)
Examples of Analogy Studies	426	(4)
Projection of Spring High and Subsequent Low in July 1993 Soybeans	426	(2)
Analogous Season Approach Based on Price Action: Projecting the July High and the Setback Low in November Soybeans	428	(2)
Incorporating Soybean Oil and Soybean Meal Forecasts	430	(1)
Reports and Sources of Information	430	(2)
Major Reports	430	(1)
Minor Reports	431	(1)
Conclusion	432	(1)
Forecasting Sugar Prices	433	(14)
On Tulips and Sugar	433	(3)
Production	436	(3)
Consumption	439	(2)
Price-Forecasting Model	441	(3)
Forecasting Prices Before the Start of the Season	444	(2)
Conclusion	446	(1)
Forecasting Coffee Prices	447	(22)
Sandra Kaul
Coffee Before and After Export Controls	447	(4)
The Rank Classification Method of Analysis	451	(1)
Evaluating the Producer Nation Balance Sheet	451	(6)
Export Availability	453	(1)
Exports as a Percent of Export Availability	453	(1)
Forward Supply Coverage	454	(1)
The Basics of Coffee Production	454	(1)
Combining the Producer Balance Sheet Variable Rankings	455	(1)
Ranking the Production Variables: Two Examples	455	(2)
Evaluating the Consumer Nation Balance Sheet	457	(8)
Constructing a Consumer Nation Balance Sheet	458	(2)
Consumer Stocks	460	(1)
Consumer Disappearance	461	(1)
Stocks/Disappearance Ratio	461	(1)
Ranking the Consumer Variables: Two Examples	462	(3)
Deriving a Combined Price Forecast	465	(3)
Expanding the Basic Model	468	(1)
Conclusion	468	(1)
Forecasting Crude Oil Prices	469	(11)
Michael S. Rothman
First Things First: Not All Crudes Are Created Equal	469	(1)
The Supply/Consumption Balance	470	(4)
Consumption	470	(1)
Non-OPEC Oil Supplies	471	(1)
OPEC Supplies	472	(1)
Inventories: The Phantom Data	472	(2)
OPEC Politics: The Critical Determinant of Oil Price Forecasting	474	(2)
Forecasting Oil Prices: A Synthesis of Methodologies	476	(4)
Forecasting Copper Prices	480	(18)
Supply Factors	480	(1)
Demand Factors	481	(3)
Economic Indicators	481	(1)
Inflation Indicators	482	(2)
The Copper Spread as an Indicator	484	(3)
Lagging Variables for Availability	487	(1)
Translating Fundamentals into Timing Signals	487	(7)
Conclusion	494	(1)
Appendix: Understanding the Difference between Nearest and Continuous Futures	495	(3)
Nearest Futures	495	(1)
Continuous Futures	496	(1)
Which Price Series Is Better?	497	(1)
Forecasting Gold (Precious Metal) Prices	498	(13)
Gold Fundamentals: What's Not Important	498	(1)
Gold and Inflation	499	(2)
Currency Price Movements	501	(3)
Economic Indicators	504	(1)
The Relationship Between Gold and Interest Rates	505	(2)
Sentiment Indicators	507	(1)
Constructing a Composite Index	508	(1)
Conclusion	509	(2)
Forecasting Currency Rates	511	(17)
Katherine Jones
Purchasing Power Parity Theorem	512	(2)
Balance of Payments	514	(2)
Interest Rates	516	(2)
Economic Factors	518	(1)
Political Factors	519	(1)
Constructing a Currency-Forecasting Model: The $/DM	520	(1)
When Things Go Wrong: Structural Changes and Impact of Government Policies	521	(4)
Monetary Agreements	525	(1)
Conclusion	526	(2)
Forecasting Interest Rates	528	(16)
Katherine Jones
Structure of the Market	529	(3)
Demand Factors	532	(4)
Supply Factors: The Federal Reserve	536	(4)
Conclusion	540	(1)
Addendum: Pricing the T-Bond Futures Contract	540	(4)
Forecasting Foreign Interest Rate Markets	544	(20)
Katherine Jones
The Interdependence of the World's Bond Markets	548	(2)
Currency Impacts	550	(2)
Political Developments	552	(1)
Economic Growth	553	(2)
Inflation	555	(1)
Monetary Policy	556	(2)
Fiscal Policy	558	(1)
Assessing Risk	558	(1)
A Forecasting Example: British Interest Rates	559	(1)
Regional Factors and Prospects for the Future	560	(3)
Europe	561	(1)
Japan/Asia	562	(1)
Dollar Bloc Countries	563	(1)
Conclusion	563	(1)
Forecasting the Stock Market	564	(31)
Courtney Smith
What Drives the Stock Market?	565	(1)
Selection of Indicators	565	(1)
Earnings Growth	566	(2)
Valuation	568	(6)
Monetary Policy and Interest Rates	574	(4)
The Economy, the Business Cycle, and Inflation	578	(8)
Inflation	586	(1)
Misery Index	586	(1)
Sentiment	586	(3)
Translating Market Indicators into Timing Signals	589	(3)
Tying It All Together	592	(1)
Conclusion	593	(2)
Appendix: Contract Details	595	(30)
Index	625