The Rude Awakening
Wall Street, New York
Friday, June 9, 2006 ------------------------- - Batten down the hatches, cyclone season is
approaching,
- How to keep your investments out of the weather,
- Hi-Ho silver! All the week's data and plenty more...
------------------------- Down in Florida, May-December relationships are as common
3-carat engagement rings. But whatever virtues these
relationships might impart, a favorable risk/reward profile
is rarely one of them.
One particular June-November relationship, however, offers
an extremely attractive risk/reward proposition...as Kevin
Kerr explains below...
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-------------------------
Hurricane Hedging
By Kevin Kerr Hurricanes destroy almost everything in their path...except
call options on commodity futures. The connection between hurricanes and commodity options
isn't precise or automatic, of course. But the "ill wind"
of a category-4 hurricane often blows some good toward
futures markets like natural gas, orange juice and sugar.
Last year's disastrous Gulf Coast storms triggered huge
price spikes in several commodity markets. Four Category 3 storms – Dennis, Katrina, Rita and Wilma –
struck the U.S. coast last year. All together, these storms
destroyed 113 oil and gas platforms and over 400 pipelines.
Hurricane Katrina, alone, caused more than $100 billion in
damage, making it the most expensive natural disaster in
U.S. history, according to the National Climatic Data
Center. Gulf Coast residents have barely picked up the pieces from
last year's disasters and now it may be time to do it all
over again. The National Hurricane Center optimistically
predicts that the conditions don't appear ripe for a repeat
of 2005's record activity. The Center expects about 16
named storms to spin across the Caribbean this year, which
would be significantly less than last year's record of 28.
We hope the Hurricane Center is on target. But we're not
ready to bank on the weather predictions of a government
agency. Another meteorological think-tank expects Mother Nature to
produce between four and six major hurricanes in the
Atlantic Ocean and Gulf of Mexico this year. Of course,
nobody can say for sure what the upcoming season has in
store, but if experts are correct that a new hurricane
"supercycle" has begun, we can expect 15 to 20 more years
of rough weather. Even though the National Hurricane Center painted an
optimistic picture it still warns strongly that "people in
coastal regions should prepare for the possibility of major
storms." "One hurricane hitting where you live is enough to make it
a bad season," deadpans Max Mayfield, director of the
Hurricane Center. 
As traders, it's important to look for ways to hedge our
portfolios from what can be the ripple effects of the
hurricane in the financial markets. The commodity markets
provide an ideal vehicle. The hurricane season runs from
June 1st to November 30th. But since no early storms have
approached the Gulf Coast, many of the hurricane-sensitive
commodity markets are trading well below last season's
levels. Natural gas, for example, spiked to more than
$14.50 per thousand cubic feet (mcf), immediately after
Katrina hit. But today, natural gas sells for only $6.21
per mcf. The drain on energy supplies and refining capacity, for
example, can be one of the biggest problems with an active
hurricane season. The Gulf Coast, particularly the Houston
Shipping Channel, is the heart of oil and gas production
and transport. 17% of production is still knocked out
because of last year's storms, even before we begin this
season. Any new disruptions, therefore, would almost
certainly boost the prices of all energy markets: natural
gas and crude oil, as well as unleaded gas and heating oil. We are not hoping for hurricanes, you understand, merely
preparing for the possibility. In other words, we are
hedging. When we purchase fire insurance on our homes we
don't hope it will burn down, at least not usually. We buy
it merely to protect our investment. Call options on unleaded gasoline are one kind of
"hurricane insurance." These calls provide an excellent
risk/reward proposition, heading into an active hurricane
season. The combination of higher oil prices and any
additional damage to refineries will almost certainly
result in gasoline prices surging to $4.50-$6 in some
states. As for crude oil, severe weather combined with the
seemingly endless geopolitical risks could throw
predictions out the window. Orange Juice calls provide another kind of insurance. Much
like the energy markets, orange crops have been decimated
by last year's hurricanes, as well as disease. That's why
orange juice is already in a full-blown bull market. A
strong storm season could push O.J. prices even higher.
Sugar is another market that has seen its crops hard hit in
Florida and elsewhere from last years hurricanes. Sugar has
the added benefit of being a key ingredient in production
of ethanol and is already in high demand. All of these commodities, and a few others, are almost
certain to see intense volatility throughout the hurricane
season. One trading tactic we are employing in my Resource Trader
Alert is to buy selected commodity options during the
current weakness in these markets. Then, as we enter the
hurricane season, we hope to sell into the early
anticipatory rallies, even before the first winds start to
really hit. It is entirely possible, of course, that powerful
hurricanes will bypass the Gulf Coast this year. But just
to be safe, why not "board up" your portfolio while the
weather is still pleasant and the winds are still calm? [Joel's Note: After calling last year's cyclone season,
Kevin went on to deliver some ridiculous profit
opportunities throughout the year. He lets you ride shotgun
all the way to the bank. Think 379% in 43 days while on a
maniac sugar high. If you like the taste of that, check
this out... Let the Profiteering Begin!
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