Tuesday, May 10, 2011

Wednesday Commodity Round-Up

Last week, I wrote the following about the commodities markets:

Below are six, longer term futures contracts. I have put them up to demonstrate the futures prices are falling or stalling in a number of markets. There are several reasons this is important.

1.) It lowers the possibility of inflationary pressures
2.) I could mean that supply/demand issues are coming back into balance
3.) There may be a bet that the world economies are slowing, thereby lowering futures demand.
This was the day before the commodities crash last week, which I would classify as the equivalent to the flash crash in the market a few years ago. Essentially, increased margin requirements led to selling. In addition, a rising dollar also contributed to the sell-off.

However, I want to issue a round of caution on the commodities markets. While I still believe they are a good long-term investment, I'm not sure the demand strength is there to keep pulling prices higher. Overall world LEIs are giving us mixed signals right now. The Brazil and India LEIs are clearly moving lower, the UK's flat, and Italy's is dropping. While China's is increasing, it is doing so at a lesser rate of increase. On that note, consider this story regarding China's overall economy:

China's industrial output growth eased much more than expected in April to suggest the world's second-biggest economy is cooling, reducing the need for further aggressive monetary policy tightening even as inflation remains stubbornly high.

Consumer inflation eased modestly to 5.3 percent in April from a 32-month high in March of 5.4 percent. The outcome topped expectations but still underlined the view that price pressures are peaking and may start to ease in the second half of 2011.

Industrial output rose 13.4 percent from a year earlier, but that was more than a full percentage point below both expectations and a strong pace in March.

Retail sales growth eased more than expected while annual increases in money supply and outstanding yuan loans hit their lowest pace in 29 months, signs that measures to slow the economy are starting to bite.

Most analysts said the central bank could now reduce the scope of further tightening in monetary policy, while a prominent Chinese government economist went further, saying policymakers may be concerned about an overly rapid slowdown.

Granted the rates of increase are still quite enviable by western standards. However, China has been tightening for the last year in both interest rates and reserve requirements, moves which appear to be having the desired effect.

Also note China's inflation rate is still above expectations, indicating further tightening is in order.

That being said, both the US and OECD area have decent LEIs, indicating the expansion may be self-sustaining at this point.

However, overall, I think a word of caution is warranted in the short-run regarding commodities as a class.