WHERE ARE THE COMMODITY MARKETS HEADED?
By Data Diary:
I’m as prone to selection bias as the next man – so keep that in mind while we try to discern where commodities are heading in the near term.
Market indicators
1) The USD is rallying – and the CRB has rolled over
With at least the juiciest dishes on the commodities smorgasbord priced in USD, the recent strength in the greenback will hurt commodities. Demand may have become more price inelastic than in earlier years, but with the CRB breaking its recent support expect further weakness to come.
2) China stockmarkets and the Baltic Dry Index are also soft
If the BDI is a reasonable indicator of bulk commodity demand, then it’s hinting at weakness. Similarly, if China has lead the global recovery, the relative underperformance of its stock markets suggest that something is amiss.
Put these together and you get a near term picture suggesting lower commodity prices are on the way.
Economic indicators
1) Leading indicators – as we noted here, it looks suspiciously like the OECD CLI is marking out a turn. This indicator has a reasonable track record in forecasting industrial production.
As Albert Edwards pointed out (analysed in “Leading indicators as buy/sell indicators for equities markets” here) – the lesson from the Japanese experience of the 90’s was to sell the rally when the stimulus was removed. With the US and China both applying their own versions of the withdrawal method (though we note that Japan is still pumping away as furiously as ever) now is that time .
2) Purchasing Manager Surveys – Quite apart from the decline in China’s PMI (discussed here) – consider what these charts are saying:
As with many market signals in recent times, the bounce back in the steel price has been unusual as it has not yet been accompanied by supply constraints. In the context of a slowing in new orders growth (as might be expected if the OECD CLI were reading the pulse correctly) this inconsistently looks even weirder. (See here for Markit’s steel report.)
The disconnect between price and supply is even stronger in the copper market. You could reasonably argue that the market is anticipating shortages to come as the new orders are stronger in this metal with only the US looking like turning weaker. Note however the new order to inventory ratio (not shown – go to Markit’s report here for further charts) is falling, suggesting speculative balances are on the rise.
Finally, aluminium too has seen its price run ahead of supply. Same picture as copper for the new orders too and (would you believe it?) the new orders to inventory has also turned down suggesting at the very least a cap on prices to come. (Full Markit report here.)
Conclusion:
Short term – the odds are for a pullback in prices. Whether this develops into something deeper depends to a large degree on how China’s demand is impacted by tightening in liquidity and more generally, how the US-China trade tensions are resolved. Even given a negative shock to China’s demand, the longer term picture remains favourable. This is not only because industrialisation will inevitably continue in China and India but the ultimate effect of money printing by the developed world will be debasement of paper relative to hard assets.
Buy the dip – and load up if there’s a deeper correction.
TNX will complete a reverse head and shoulders formation when rates poke above 4.00%. The measuring implication of this formation suggests a rise in rates from 3.86% to somewhere around 6.15%, 229 basis points! So much for the Obama recovery.
At this point in the financial cycle (as in the principle of Yin and Yang, indicators act differently in contractionary versus expansionary phases), a rise in rates should tend to strengthen the dollar. However, ongoing fiscal wastrelism of the democrat administration should see a flight from US bonds, and a mass selling of the dollar to facilitate repatriation of foreign capital.
Continued unemployment and underemployment at politically unacceptible rates will ultimately doom this administration to the historical oblivion it deserves. But, as long as the political elites of both parties continue their subscription to globalization and its domestic, job-killing proclivities, no real improvement in the nation’s finances will be possible.
Presently, Dr. Copper and UUP are in confirmed uptrends. GLD, USO, and CRB are reacting or consolidating for a further rise. At this point, there is little reason for any of these issues to succumb to new lows (with all of its problems going forward, UUP is still the reserve currency and relatively tantamount to a safe haven).
After crashing to 94% of its high reading, the BDI has managed only a 22% recovery, and currently appears to be moribund. Should this index swoon, accompanied by a spike in the TED spread, then the wheels would truly be falling off of the Behemoth and basically all commodities would move rapidly and decidely higher. No danger yet, mate!
I would like so much to be bearish of copper right now. All my analysis says that demand is investment driven. This usally ends badly for those holding the ‘investment’. However, the dollar has strengthened, and copper just keeps on chugging. Up big today in fact. I’m trying hard to sit on my hands and not trade it here. I am going to wait for the market to show me something.
Thoughts?
Speaking of shipping, I saw this last Fall and really was awestruck. The largest fleet of all time – carrying no supplies, no cargo, and no crew. It’s like an erie 21st century pirate cove.
http://www.dailymail.co.uk/home/moslive/article-1212013/Revealed-The-ghost-fleet-recession-anchored-just-east-Singapore.html