Cows Eat Corn

• Posted by Greg Harmon
• on May 31st, 2011

Every kid will tell you that cows eat grass. They see it happen as they drive by the fields. They see it at the farm on their year end field trips. They read about it in books. Even some adults have seen these things when they were kids. Well let me set the record straight. Saying that cows eat grass is like saying all elephants live in the zoo. Cows do not eat grass, they eat corn. Not because they like it or that it is better for them than grass, but because of economics. A cow fed corn grows faster and can be sold for slaughter sooner. What does this have to do with charts? The relationship between cows and corn sets up for a great pairs trade. The ratio chart below of the iPath Dow Jones-UBS Livestock Subindex Total Return ETN (ticker: $COW) against the Teucrium Commodity Corn Fund (ticker: $CORN) shows this relationship over the last 8 months.

COW vs. CORN

Notice the downtrend since mid November with support of a sloping trend line. That trend line was breached last week but the ratio closed back above it Tuesday. Previous touches to the trendline or the bottom Bollinger band have resulted in a move higher to the top of the Bollinger bands. This makes for an excellent opportunity to play the move higher in the ratio.

Buy 8 COW and sell short 5 CORN for a target of 0.71 up from 0.62, using 0.6 as a stop

This trade would yield between $28.95-32.72 per pair with risk of $6.96-7.25 or a reward to risk ratio of at least 4:1. Not convinced? Look at the components:

CORN

CORN has been in a flag in a rising channel. But the Relative Strength Index (RSI) is turning lower and the Moving Average Convergence Divergence (MACD) indicator is waning. Both suggest some downside to come.

COW

COW on the other hand has been basing and rose Tuesday off of that base. It has a RSI that is moving higher and a MACD that is about to cross positive. This is a good name to look at holding long outright. So even the pieces help to make the case that COWs eat CORN.

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