Technical Trading: Fibonacci Explained With The Corn ETF (CORN)

by on November 25, 2010

A round of positive economic data lifted the markets nicely before Thanksgiving, allowing investors to take a breather after the hostile activity between North and South Korea on Tuesday spooked investors and sent them to safe havens such as gold and U.S. Treasury bonds [see Korea ETFs Plummet As North/South Tensions Flare]. An uncertain global outlook still overshadows equity markets, and it will be interesting to see if the holiday cheer carries into the shortened trading day on Friday as well as next week. Global tensions aside, the commodities market has been on fire lately with the PowerShares DB Commodity Index ETF (DBC) returning an impressive 14% in the last 13 weeks, even when factoring in its recent decline of roughly 7.6%. While broad commodity funds have surged in recent weeks, one particular grain has stolen the show, corn. The corn crop has been no stranger to the headlines as it has risen sharply thanks to favorable supply conditions including the US Department of Agriculture lowering production forecasts and less-than-ideal growing conditions in Argentina and Russia. Long term fundamentals are improving as well for corn, with increasing demand from South Korea and bullish developments in the Corn Futures market. Investors shouldn’t worry too much about the recent decline in corn prices; they were roughly correlated with a broad sell-off in risky assets and ongoing strength in the U.S. dollar which has picked up steam in recent weeks due to ongoing trouble in the euro zone. Buying on dips has proven to be profitable for those who exercise caution when entering into a position as well as when it comes time to take profits.

Fibonacci Retracement

The Fibonacci Sequence is well known amongst mathematicians, scientists, and technical traders alike. The sequence, originally developed by Leonardo Fibonacci (around 1200 AD), is derived by simply summing the two preceding terms (1, 1, 2, 3, 5, 8, 13, 21, etc.) . This string of numbers bears no significance, however, the quotient of its adjacent terms signify a proportion (roughly 1.618) which corresponds to numerous relationships in nature as well as patterns in stock charts [see Fibonacci And The Golden Ratio]. The golden ratio, 1.618 (and its inverse .618), is important to technical traders because it is the underlying proportion used to project likely support and resistance levels; a key for technical traders. Fibonacci’s golden number is used in multiple tools including: retracements, extensions, arcs, fans, and time zones.

Fibonacci Retracement is one of the most popular, and simplest, technical analysis tools used by institutional and individual traders alike. The golden ratio is translated into the following multiples: 23.6%, 38.2%, 61.8%, and so on. The Fibonacci Retracement itself is drawn from the low to the high in an uptrend of a given security, and the percentages listed above are noted to be likely levels of support as the stock reverses its uptrend, and begins a correction. The 50% retracement is also significant and often times a good level for traders to step in and establish a position, despite the fact that it’s not necessarily derived from Fibonacci. The real beauty of a Fibonacci Retracement is the fact that it can easily be applied to down-trends as well, simply by reversing the high and low points of the retracement. In fact, the retracement can also be applied in reverse, by plotting the start at the stock’s previous high and the end at its most current low, to project various levels of resistance that stock may encounter as it fights its way back up [see Inside Five Surging Commodity ETFs].

Technical Analysis: CORN

Teucrium entered the commodity ETF space with the launch of its Corn Fund (CORN) earlier this year in June. CORN has been running up ever since its debut, stopping to take a breather around the end of September, but quickly resuming its upward trend and hitting an all time high of $39.73 per share on November 9th. The fund’s holdings consist of corn futures traded on the CBOT, giving investors pure exposure to the increasingly popular global commodity. Most importantly, exposure to this hot commodity has proven to be profitable, with CORN returning more than 33% since its inception [see Inside the Corn ETFs Surge].

Earlier in November, CORN set an all time high of $39.73 per share, while still managing to sell-off midday and close at $37.14 per share. Since then, CORN has been slipping lower and lower, but it managed to hold support on Tuesday and popped up nicely in Wednesday’s session. Given the recent reversal of its past uptrend, its appropriate to apply a Fibonacci Retracement and project likely levels that CORN may retrace to. It is also a good idea to draw the Fibonacci Retracement with a long-term time horizon, which means starting at the low of $23.79 a share and ending at the high of $39.73 a share. Looking at the chart below, we can see that the retracement has nicely predicted the current levels at which CORN is struggling to establish support. The 38.2% support level comes in at $33.64, which is critical to note since CORN managed to close above that level, indicating that the ETF may have completed its correction from a technical perspective. The next level of support for CORN comes in around $31.76, which corresponds to a 50% retracement from its high in early November [see The Perfect Storm For The Corn ETF?].

Traders can gain further technical insight by using the multiple retracement method. This technique has traders draw each retracement according to a different time perspective (long and short term), which may reveal high probability levels of support/resistance. For example, CORN’s most recent uptrend is actually the second wave in the larger uptrend that CORN has been in since inception. In order to project retracement levels in terms of a more current, or shorter, time perspective we can draw a second Fibonacci Retracement. This retracement is meant to capture the most recent uptrend, which starts on October 4th at $30.01, since that is the last time the Daily Stochastic Momentum reversed after hitting an oversold level, and ends on the all time high of $39.73 on November 9th. From the chart below we can see that CORN has retraced a healthy 61.8%, and has managed to hold support and even rise higher, giving additional price action evidence to support the significance of its retracement [also read Understanding The Corn ETF's Huge Premium].

The chart below shows the long-horizon Fibonacci Retracement (purple) applied to CORN, with the short-term retracement (yellow) plotted as well. It’s evident that CORN’s recent retracement was right around a high-probability level (around $33.68) , since it is projected by both the short and long retracements as being significant (38.2% and 61.8% are both significant retracement levels).

CORN looks beautiful– technically speaking– considering it has endured a significant correction from both a short and long term time perspective, and its fundamentals are still strong going forward. Investors who are bullish and have a long-term outlook may look to establish a position in CORN at current prices, or wait until they feel more comfortable with the risk they are taking [see all the ETFs in the Agricultural Commodities ETFdb Category].

Trade Safely

By far the most important thing to remember is to exercise caution when trading, especially when using technical analysis. Do not simply rush in to buy up an ETF or other security as soon as it retraces and touches the 38.2% level (or any other level). Instead, monitor its price action around the support line and take note of volume and momentum (15min, 1hour, and daily) before deciding that you are comfortable with establishing a position at the current market price. In addition to being conservative with your strategy, remember the importance of stop-loss orders and the benefits they provide as outlined in last weeks technical analysis commentary [see Technical Trading Ideas: SPY, VXX, GLD].

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Disclosure: No positions at time of writing.