Bill Cara for the Trader Wizard
Commodity prices, like the metals group, are mostly the product of economic supply and demand factors – longer term. But like all capital markets prices, they are materially affected in the short-term by fear and greed emotions. They are also a reaction to interest rates. This week, we have the double whammy: investors afraid of rising interest rates.
To help me forecast the trends and cycles of commodity prices, I examine various inter-relationships in all the capital markets. When the headlines scream that metal prices are collapsing because China demand has fallen, I naturally look for confirming proof in the non-China affected markets. So far, I have yet to see it.
Secular trend reversals are never established as overnight reactions to market news. They take time to develop. So, this week’s splash and crash in commodity metal prices has me looking to see where the immediate pressure is coming from.
My sense of the data is that geopolitics in the Middle East has upset investors and they are filling their mattresses with U.S. dollars. A higher dollar will depress commodity prices. Economic waste in the war against terrorism, albeit necessary, is causing a lift to interest rates, which also put the brakes to rising commodity prices.
Longer-term, of course, higher commodity prices go lock step with rising inflation, which when combined with over-heated economies – surely something we do not have presently – will result in acceptable interest rate increases. Today these interest rate increases are NOT acceptable. So, I decided to focus today’s blog on the interest rate market.
As you probably know by now, I am a strong advocate for Exchange Traded Funds (ETFs). You may know that there are several interest rate based ETFs that trade on the American Stock Exchange (www.amex.com) such as:
AGG — Aggregate Bond Fund
LQD — Corporate Bond Fund
SHY — 1-to-3-year Treasury Bond Fund
IEF — 7-to-10-year Treasury Bond Fund
TLT — 20+-year Treasury Bond Fund
Trading on the London Stock Exchange is a Bond ETF called iShares iBoxx Euro Liquid Corporates ETF, which tracks a basket of investment-grade European corporate bonds.
I will run a technical study to determine what investors are doing and likely to do with these ETF market instruments. If you go to my web site at www.TraderWizard.com, on the home page you will see a technical chart facility called EasyStock.COM. Key in the interest rate based ETF symbols and you will see what I see.
You will observe if you look closely, that Wednesday morning April 28, at the open, and then about 11 am EDT Thursday April 29, and again Friday afternoon, April 30, at about 2 pm EDT, rates skyrocketed as these bonds were sold off. Coincidentally, the number of deaths of soldiers and contractors in Iraq has jumped. I don’t have to repeat the headlines of killings of foreigners in Saudi Arabia as well and throughout the region. The American president will, and must, persist in this conflict; however, it is becoming a quagmire for investors who happily had been riding the bull from March 2003. Rather than a matter of all good things must come to an end, this happens to be a time when nervous investors are reacting to bad news more than they did in the past year.
Technical analysts can say they expect a bounce on Monday morning but there is nothing in these charts to indicate it. If they are right, I suspect it will be the Federal Reserve Bank in the U.S. working reserves back into the system in the morning to stem the rapid bleeding in all the capital markets. If they do, however, it will be short-lived.
As the usual sector rotation naturally occurs in the debt and equity markets, as interest rates start to ratchet higher, which is a longer-term process that takes time to work out, the metals and precious metals will continue to rally. Gold, in particular, has a long way to go from its present level.
The only exogenous factor that could disrupt or delay the inevitable increase in gold prices would be a future United Nations or NATO resolution to directly oversee the transfer of power to a democratic regime in Iraq. The world needs it. Investors need it. I am certain that is why Canada’s prime minister was in Washington at the end of this past week. This will be Canada’s chance to shine.
For far too long have we Canadians smugly basked under the protection of America and enjoyed the benefits bestowed by the American consumer. We all have responsibilities. Now is the time to step up, Canada.
Besides, global stability and economic growth will mean higher metals commodity prices for which Canada will be a major benefactor.