Wheat prices have been drifting lower for the past five weeks, taking back the 65-cent gain experienced during the seasonal rally into October. Spring wheat futures prices at the Minneapolis Grain Exchange (MGEX) have slid to a three year low of US$6.9325 per bushel, a price not seen since October 2010.
Prices have been under pressure since a Tweezer Top developed in July 2012 with the market topping out at $10.35 per bushel (all figures US$). A Tweezer Top is a technical formation that indicates a change in trend and it materializes when a market posts the same high in two consecutive periods. This pattern is illustrated in the MGEX weekly nearby chart accompanying this article.
Since then, the market has been putting in lower lows and lower highs and this price action has subsequently evolved into a downtrending channel.
During the course of a trend and all the fluctuations which compose it, there is a well observed characteristic for prices to closely follow a sloping straight line path. During a period of falling prices, this path is determined by a line drawn across the highs of the reactions. When an emerging trend can be identified and followed to its conclusion, it translates into opportunity. The use of trendlines is a valuable tool for accomplishing this.
In a falling market, for a trendline to be both valid and reliable, there should be at least three points of price contact, each of which coincides with a rally high, and each topping out at a progressively lower level. Beyond the minimum of three contact points, the more times a trendline can check a price advance in a bear market, the more valuable it becomes as a trend indicator. There are five reaction highs depicted in the channel I’ve illustrated in the accompanying chart. Similarly, the longer the trendline continues without being penetrated, the greater becomes its technical significance.
In a downtrend, the channel’s upper boundary is the downtrend line. It is drawn across the highs. The lower boundary is the return line and it is drawn parallel across the lows of each progressively lower decline.
One should be on the alert, studying the price activity during the course of a trend. If prices start to display an inability to reach the return line, this could prove to be an important first indication that the current trend is waning.
Market psychology: Price activity that lends itself to trendline and channel construction reflects a particular sequence of behaviour. As a new downtrend begins to emerge, sell orders materialize but many are at a limit price above the market. In the normal ebb and flow of the market some of this selling is satisfied when prices bounce. However, a portion of the offers are too high to be filled and when prices again begin to move down, some of these sellers jump in for fear of missing the move. The balance of unfilled selling will continue to trail the market in hopes of catching a price reaction. Most of these sellers will gradually lower their offers as the market declines.
Some profit taking and short covering emerges on price bulges and as this occurs the offers which had trailed the market are gradually being absorbed. When the price finally does turn up for real, trendlines will be broken because the selling has totally dried up or the volume of buying simply overpowers what little selling remains.
After a period of downward movement, one must be on the alert for any subtle changes in this repetitive process, as they will show up clearly on the price charts. When price declines begin to fall short of the lower channel boundary, it is a clue that the existing price trend may be waning or at least getting ready to consolidate.
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— David Drozd is president and senior market analyst for Winnipeg-based Ag-Chieve Corp. The opinions expressed are those of the writer and are solely intended to assist readers with a better understanding of technical analysis. Visit Ag-Chieve online for information about grain marketing advisory services, or call us toll-free at 1-888-274-3138 for a free consultation.