Monday, December 15, 2008

Commodity price collapse may be ending

I'm seeing signs that the huge collapse in commodity prices may be coming to an end. It's not too easy to see in this chart, but the JOC Metals index (steel, copper, aluminum, zinc, lead, tin, nickel) has been slowly rising for the past four weeks. This index is a key indicator of industrial activity, so any firming in prices is an excellent sign that the sharp slowdown in economic activity we've seen all over the world in recent months may prove to be an "air pocket;" a temporary drop in demand brought on by a sudden crisis of confidence.

Other encouraging signs in the past few weeks: a bottoming in the Baltic Freight Index, downturn in the dollar coupled with an upturn in gold, and a firming in some scrap metal prices. This is too tentative to take to the bank, but if we see more such signs it would be strong evidence that we will avoid the deflation and depression that the market is obsessed with, and that in turn would be a huge boost to confidence.

7 comments:

Titus said...

Scott,

You have some great analyses, many of which point to bullish signs for the US economy and stock market. What is your take on total aggregate (private and government) US debt being at all-time highs; 380% of GDP? The last time this figure was over 300% was in the early 30s, and we know what happened with deleveraging during that time. How does this factor into your thinking on the outlook for the US economy and stocks?

Chris said...

Scott, in your estimation how much of the recent firming of prices is a result of increased industrial activity as opposed to an inflationary response to a weaker dollar because of the quantitative easing by the Fed?

Scott Grannis said...

Titus: I haven't been too worried about overall debt levels. Deleveraging has surely been a problem in recent months, but I think the forced selling is on the wane at this point.

As for the long-term increase in debt ratios, I'm not sure that is necessarily bad. A modern, efficient economy with deep financial markets can almost certainly support a much higher level of debt than could the economy of 100 years ago.

Check out my charts of household balance sheets and debt service burdens; neither of those show that debt is anywhere close to being problematic for the vast majority of people.

Scott Grannis said...

Chris: That's really tough to say. I don't think industrial activity is turning up yet, but I would guess that the rate of decline is most likely slowing. Also, I think that there is likely less liquidation by speculators of long commodity positions as deflation fears fade. So the negatives are slowly fading, while positive factors, such as increased liquidity injections by central banks, are ramping up.

prophets said...

what you are seeing is the effect of the US dollar being revalued overlaid on raw material values, not an uptick in demand itself.

Scott Grannis said...

I would agree with you, but I think it's also the case that we've passed through an inflection point where the rate of decline in activity is now slowing.

prophets said...

i can't say. i don't have a model of aggregate global industrial production statistics. maybe i will try to put one together.

perhaps some of it is also the interplay between cash commodity price today vs. futures, whereby there is hording occurring in an attempt to arbitrage future delivery prices.