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Can Commodity Spreads Be Day Traded?

A topic that has received very little attention in the past is the use of commodity spreads. Over the years I have discovered that only a few traders truly understand spreads. In fact, I have found that even those traders who do understand spreads have difficulty placing spread orders, lacking understanding of the technical aspects of spread trading and the knowledge that is required to trade spreads. This is truly unfortunate, since I consider commodity spread trading to be one of the highest-probability and most reliable aspects of the futures trading.

Experienced commodity traders are well aware that most commodity spreads have a strong underlying seasonal basis. It is the strong seasonal basis of most commodity spreads that makes them viable position trading markets. On an intraday basis, however, seasonality does not apply. Hence, no matter how strong a seasonal tendency may be, it will not be applicable for the purpose of day trading. The question is "Can spread be traded on intraday bases using some of the technical tools contained in this book?" In order to answer this question, we must first determine whether the spreads we wish to day trade meet the two criteria we have already discussed in this chapter. Specifically, is the spread volatile and does the spread have sufficient trading volume to permit viable and effective day trading?

The first issue, volatility, is easily answered by examining the entry day-trading range of the area's spreads. In so doing we find that there are certain spreads that appear to meet the volatility prerequisite for day trading. At the time of this writing, a number of currency, interest rate, and grain/soybean complex spreads meet this criterion. Remember that the ideal markets for day trading spreads will change over time. Please refer to my discussion above for details regarding such changes.

The issue of trading volume, which is also important in determining what markets to day trade, is not easily determined for spreads. Since a commodity spread is not considered a countable trade in terms of volume statistics, it is impossible to know for certain how many commodity spreads of a given type are being traded. As a general rule, it is not unreasonable to assume that large trading volume in the underlying individual contract month or markets will correlate strongly with large trading volume in the spread. Ultimately, however, the individual trader will need to decide which spreads to trade.