By Guy Bower*
Posted: Nov 20, 2009

Seasonal analysis has long been the domain of professional traders, but over the last decade or so it has slowly been picked up by the private investor. Good information on seasonal trading is still hard to come by, but that in itself in a good thing because it is still a niche that can be exploited.

What Is Seasonality?

Seasonality refers to a pattern that depends on, or is controlled by, the time of the year. Seasonality exhibits itself in many aspects of the business world. For example, sales of Christmas cards logically peak before Christmas. Accounting business peaks around the end of the financial year. Sales of red roses peak just before February 14. Many businesses, products and statistics are subject to seasonal variations. For the trader, it can mean opportunity.

What Drives Seasonal Patterns in Markets?

The answer to this question is the same as that for the price of anything -- supply and demand. Consider the demand for beef. In any economy, demand is greatest when the weather is the coolest. Logically, people eat more roast dinners in the winter than they do in the summer. While demand for beef is high during BBQ season, it tends to be less than good old home-cooked dinner demand.

On the supply side, during winter, weight gain in live cattle is low. So, during the U.S. winter, demand is high and supply is tight. This translates to a seasonal variation in price. With a well-timed trade, you can make money from this.

Source: eSignal - www.esignal.com

Another example of seasonality is coffee. Coffee consumption is far heavier in the northern than in the southern hemisphere and heavier during winter than in summer. Thus, after March, consumption begins to slow. Furthermore, harvest in the southern hemisphere normally begins in June. Thus, producers tend to liquidate inventories before then, making deliveries against May futures (which begin April 20) less desirable. This creates a short-selling opportunity.

Source: eSignal - www.esignal.com

Seasonal Trading: Is This Fundamental or Technical?

Many traders find it important to define whether they follow technicals or fundamentals. Let's just take a look at a definition of each and how that translates into seasonality trading.

Technical analysis is the study of price trends and patterns. It is sometimes called charting -- although strictly speaking, charting is a subset of technical analysis.
Fundamental analysis is more concerned with analysis of supply or demand factors than it is with charts.

So, what is seasonal analysis? Well, there are two ways to look at it. On one hand, you can say seasonal analysis is fundamental because it looks at shifts in supply and demand at any time of the year. In the previous examples, we looked at seasonal factors from the point of view of fundamentals. The examples considered harvest and production cycles, weather and consumption demand. These are fundamental factors that analyze supply and demand.

You can also look at seasonal trading from a technical point of view because it is an analysis of price patterns in the market. These price patterns can be recurring and present trading opportunity. Identifying recurring patterns is the basis of technical analysis, so you could consider seasonal analysis a type of technical analysis.

Keep in mind that there is no correct or incorrect way to look at this. All traders have their preferences, but there are some pretty important things to consider in the "do and don't department".

The DO's and DON'Ts of Seasonal Trading

• Do find a good information source. Unless you are a quantitative analyst and a super-wiz with Excel, you need to get the seasonal data from somewhere.
• Don't use seasonal data for trading outright futures contracts. Consider looking at spreads. The signals tend to be more reliable.
• Do find a good broker -- one that knows about how to place spread orders effectively.
• Don't use seasonal data in isolation. This is where a lot of people come unstuck. Seasonal data is just part of the trading equation.
• Do keep some perspective. You can learn a lot from the right broker, but having the right information and following a plan is the best course of action.
• Don't get too caught up with the vernacular of seasonal spread trading. It's less important than getting the right information and placing trades accordingly.

Whatever you do, don't miss out on this approach to find opportunities in the futures market.

*Reprinted (and modified) with permission from Guy Bower, CEO, BSP Capital (guy@guybower.com) (first published in the PTD Futures Trading Newsletter (online), July 28, 2009)