Oh! Crystal Ball, Show Me the Future

Question:
What is the intermarket relationship between other market indices and/or such as the Dow, Soil Oil, Crude Oil, Palm Oil, the U.S. Dollar, and the futures market?

For example if I look at the futures market the night before, can this be used to gauge the next day’s market open or close? Thanks for all your very informative articles. They are always very helpful and interesting ........

From Thomas Lee Melaka

Answer:

To understand the answer I will soon give, you need to understand the basic definition of futures trading, so here it is …

“A futures contract is a standardized contract to buy or sell a specified commodity of standardized quality at a certain date in the future and at a market-determined price (the futures price). The price is determined by the instantaneous equilibrium between the forces of supply and demand among competing buy and sell orders on the exchange at the time of the purchase or sale of the contract.”

The relationship between the future price and current price is real but extremely fluid. For example, Trader “A” might look at the futures market price of XYZ and see that the price is higher. That trader might determine that the trend of XYZ will be toward that higher future price and so he or she might take a long position based on belief that the futures price is correct. Trader “B” might see the same futures price of XYZ and then take the opposite position. Which way the majority of traders go is dependent on a wide variety of factors, too numerous and specific to mention here.

To use the futures price of XYZ as an indicator of the open or close price of a specific market on a specific day is only helpful if you understand the other variables affecting the price of the specific market you wish to trade. The futures market is one factor to consider.

For example, if you see the futures price of Soybean Oil going higher 90 days out, you might think the price of Soybean Oil will trend higher, so you buy long the next day. Mid-afternoon, a report comes out announcing an oversupply of Soybean Oil on the market. The current price drops. What do you do? It is the same for the indices as it is for any market—things can change, and change quickly depending on what the market knows now, in the moment.

In general, though, one could look at the futures market the night before and get a “feel” for the next day’s action, but it is only a feel. You must have all of your other “ducks in a row” in order to use the “indicator” reliably.

Inventories, productions or geopolitical discrepancies can alter some sentiments or even a whole trend with natural phenomenons such as El Nino, hurricans or industrial strikes which is all possibilities, and usually does, make a dramatic turnaround of the futures' prices you were looking at the previous night.

Be prepared for such eventualities at any given time usually withour prior warnings. The only certainty closes to a sure thing is the sun will always rises in the east and sets in the west.

Regards

ZL

HAPPY TRADING & GOODLUCK2U