The Reuters/Jefferies CRB Commodity Index, the commodity price benchmark made up of 19 commodities (petroleum products, base metals, agricultural products…) has continued its broad decline started in early July.

In our last update (MM of October 23) we were mentioning that commodity prices had tumbled to a four- year low today, at 266 points (point C on the chart), and that a further move downward was likely as the indicators were clearly bearish.

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The price action actually hit the following expected support level at 230 points It means that the CRB has lost more than 50% of its value in 5 months (between points A and B on the weekly chart). This new support level at 230 points is a previous high point posted in October 2000 (point C), then in January 2001and in October 2002 (points D and E). Once this resistance was cleared, it became a new low and the inflection basis point for the bullish trend development that started in March 2003 (point F).

The RSI shows that the CRB is clearly oversold now. Therefore technically, the current support level may be an opportunity for a bounce back. But as long as the RSI does not jump above its signal line and gets out of the oversold area, there is no positive alert triggered. Consequently the price action can potentially decline further with a RSI that remains oversold during several weeks.

A break of the current support would open the door towards the historical low levels posted in February and July 1999 (points G and H) and in October 2001 (point I), when the CRB bottomed at 182 points. Roughly it’s a further 20% fall from the current levels.

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On the daily chart, we see that the immediate resistance during the large decline generated last July is the 30-day moving average. If the support at 230 points holds (yesterday the closing price of the US session was 233.35), the Fibonacci retracement ratios are likely to become the price objectives.

As smart money will sooner or later flight back into resources-related stocks, there are on the ASX many opportunities to take advantage of this expected flight-to-quality. Sino Gold Limited (ASX:SGX) is an Australian company involved in the exploration, development and production of gold exclusively in China. The company is primarily focused on the development of the Jinfeng Project.

As many other commodities-related stocks, SGX has suffered from the broad decline of the tangible assets those past two months. But it had also declined between March and May, while the equity markets were sharply rebounding. The fact is that Gold prices was effectively retracing from the peak posted above $1,000 an ounce. As a result, there is a strong positive correlation between gold prices and the SGX price development. The chart shows the SGX price action (black bars) and the Gold price action (red line).

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Many indicators argue for a strong rebound of the Bullion, in the current context of financial crisis and uncertain business climate. Actually Gold price has soared this week, it posted the biggest gain ever posted in one day on Wednesday, as the credit market turmoil convinces investors to pull their money out from equities and to put it back in safe-haven assets. What is safer than Gold?

An ounce is now trading around $850. It means that Gold has rebounded by 15% in 10 days after it posted a low at $740 on September 11. Regarding SGX, a few positive signals have been triggered and argue also for a further rebound. This may be good vehicle to take advantage of the Golden come-back.

The stock actually lost 66% of its value between the historical high posted in last March, at $8.81, and the recent low posted last week (at $2.95). The stock had been obviously oversold and a retracement has already started.

The MACD just triggered a bullish signal this week, as it crossed above its signal line. So did the Money Flow Index, which is an oscillator that accounts for volume action. It shows that smart money flies back into the stock. When price and volume both move on the upside, it’s a good sign that a bullish momentum is building up, and that a positive trend may be possible.

The stock closed at $4.40 this Friday. A significant retracement of the recent decline (between point A and B on the chart) has already driven above $4.3 (23.6% Fibonacci ratio) as the first objective. However a trend is likely developing: $5.2 then $5.9 would become the main immediate targets (38.2% and 50% retracement ratios).

Very quietly compared to all the noise about the big bailout proposal from the US Government and the other move for the Fed to offer a lifeline to struggling mutual cash management funds, new steps to relieve distressed commodities markets were launched Friday by US regulators after Lehman and AIG woes triggered a wave of selling and emergency actions by exchanges earlier in the week.

The Commodity Futures Trading Commission, the main regulator of US commodity markets, said it was ”prepared to provide temporary and conditioned hedge exemption relief for firms taking on swap positions from distressed companies”.

The move would allow Wall Street’s investment banks and trading companies to take over some large commodities’ positions held by Lehman Brothers and AIG, known as swaps, without surpassing limits set by the regulator and the exchanges on speculative limits.

”This will allow for continued risk management and orderly functioning of the markets,” the CFTC said in the statement.

That means in particular the huge oil market will be stable.

AIG acts as a counterparty to a substantial portion of the $US30 billion invested in the DJ-AIG commodity index, the second most popular benchmark in the asset class. Lehman Brothers was also a significant player in commodities markets.

The CFTC added that it was coordinating with commodity futures exchanges to facilitate rare block trading, which allow the transfer of large positions. That would allow the people liquidating Lehman and winding up AIG’s speculative positions to handle large groups of deals with the same counterparties.

“CFTC staff is engaged in heightened monitoring and surveillance of financial company single-stock futures traded on futures exchanges – in coordination with the SEC’s emergency action on short selling and in our collective effort to prevent manipulation of financial stocks,” the Commission said.

That will be significant as already there are traders developing ways of circumventing the ban on short selling: one is sell the S&P500, then hedge the stocks you don’t want; in effect you short sell the stocks remaining in the position unheeded.

The move links to the one on Friday where cash funds were guaranteed. Many mutual funds have commodity based offerings and investors use the associated money market fund when moving their money from fund to fund..

The US Treasury on Friday rushed to the aid of ailing money market funds, saying it would guarantee the holdings of funds as it attempted to prevent the spillover of the financial crisis to the $US3.4 trillion business.

In establishing the temporary guarantee program for the US money market mutual fund industry, the Treasury tapped the Exchange Stabilisation Fund, which was established by the Gold Reserve Act of 1934 in response to the Great Depression. The support will be done via the Fed.

The move to shore up the fund is designed to allow the Treasury to insure the holdings of any publicly offered eligible money market mutual fund – both retail and institutional – that pays a fee to participate in the program.

It came after the Reserve Fund was forced to reveal it was ‘breaking the buck’ in paying investors 97c in the dollar and not the usual $1 in redemptions after being exposed to $800 million worth of Lehman Brothers debt that is facing big losses.

 

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Crude oil rose Friday in New York, capping the biggest three-day rally in almost a decade, on speculation government measures to resolve the bank crisis will spur the economy and bolster petroleum demand.

That’s the theory, the reality is that there will be no impact on the US economy and oil prices will start sliding very quickly.

Oil rose 6.8% on Friday as output disruptions from hurricanes in the US and attacks in Nigeria’s main oil producing region continued to have as much impact on price and sentiment as what was happening in the sharemarkets and credit system.

October crude futures jumped $US6.67 to settle at $US104.55 a barrel in New York after rising 7.4% to touch a day’s high of $US105.25 a barrel.

Oil prices rose 15% last week, the biggest three-day rally since December 1998 as shorts scrambled to cover short positions.

That lifted the week’s performance to a 3.3% gain, the first weekly rise since mid August. It’s still down 29% from the high of $US147.27 reached on July 11.

The October contract expires tonight, our time, so when the Fed and the US Government moved on the mega bailout, traders decided to cover their positions.

Inventory positions in the US in the wake of twin Hurricanes Gustav and Ike will be key figures for the market this week.

Energy companies have resumed about 12% of oil production and a quarter of natural-gas output in the Gulf of Mexico after shutting almost all of it before the hurricanes.

The Gulf accounts for about 26% of American oil output and around 14% of gas production.

In Nigeria, Shell warned that the recent escalation in militant attacks would hurt earnings. The country has lost about 280,000 barrels a day from the violence on top of production already shut-in, according to government officials.

November Brent crude rose $US4.42, or 4.6%, to $US99.61 a barrel in London.

 

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Gold futures dropped sharply on Friday to end a very volatile week.

But it still had its biggest weekly gain in almost nine years on the turmoil in the financial markets.

Comex December gold futures fell $US32.30, or 3.6%, to $US864.70 an ounce in New York, but the metal jumped 13% over the week, up $US100.20, the best since October 1999.

Comex December silver futures dropped 22.5 USc, or 1.8%, to $US12.475 an ounce on Friday. That left it up 16%, the best since early 1987.

Gold is now up 3.2% so far this year, while silver has dropped 16%.

Comex Gold for immediate delivery rose $US18.26, or 2.2%, to $US869.23 on Friday.

 

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Copper had its best day in a month after the US bailout was revealed.

Comex December copper futures rose 11.05 USc, or 3.6%, to $US3.1765 a pound in New York. But that still left the metal down half a per cent over the week.

On the London Metal Exchange, three month copper rose $US311, or 4.6%, to $US7,060 a tonne, or $US3.20 a pound. The price is up 5.8% this year.

Nickel however had its biggest weekly drop in almost four years as stocks of the metal rose to a nine-year high, signalling weak demand from consumers, led by stainless steel producers.

London Metals Exchange stock rose 0.9% to 52,326 tonnes, the highest since July 1999.

That was after a 0.6% dip in second quarter stainless steel output this year, compared to the same quarter of 2007.

Three month nickel ended at $US16, 843 a tonne. The fall was more than 12% for the week, the biggest since October 2004.

The International Nickel Study Group said the world’s nickel surplus rose for a third month in July as consumption of the metal dropped to a nine month low.

The INSG said nickel production of the metal exceeded demand by 9,900 tonnes tons in July, compared with a surplus of 7,700 tonnes in June.

 

 

It sounds like more of the same from the past few weeks: sharemarkets rattled, financial stocks rattled and commodities on the slide. 

Well, it was up till Friday when it suddenly became a very different story.

And this morning, a switchback, with oil under the $US100 a barrel mark in New York trading early today as damage from Hurricane Ike wasn’t as bad as feared.

The US dollar fell Friday as the slide in the euro came to an end; the Australian dollar bounced a couple of cents; gold, copper and several other commodities rose and Hurricane Ike was the big influence.

But the big question was whether Friday’s bounce was due to Ike coming ashore and apparently not leaving too much damage to the oil and gas producing, refining and distribution facilities along the Texas coast between Houston and Galveston.

At least 13 refineries in Texas were shut for the passage of Ike.

That was 3.64 million barrels a day of refining capacity.

But as we have seen after storms in the past month, once the situation is clarified, then the prices of oil, petrol and gas will ease quite quickly.

And that’s what seems to have happened after Ike as oil fell in early electronic trading in new York to $US99.25 after dropping to $US98.75 a barrel early this morning, our time.

The October New York contract briefly dipped to $US99.99 on Friday, falling under the $US100 level for the first time since April 1.

But Nymex crude in New York rose 31c to close at $US101.18 a barrel.

In London, October Brent North Sea crude eased 6c to settle at $US97.58 a barrel.

Oil prices are down $US47.29 a barrel since the peak of $US147.47 on July 11.

For all the sound and fury of Ike, the real story remains the continuing dip in American consumption of oil-based energy products.

US energy consumption is down 3.8% over the past four weeks compared with the same period in 2007, while petrol consumption is down 2.1%.

 

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On the Chicago grain markets, the emphasis is shifting as the harvest gets underway and the yields of wheat, corn, soybean and other crops becomes clearer.

The United States Department of Agriculture said on Friday that the hugely important corn harvest won’t be as big as thought because of widespread dry, warm weather last month.

The USDA said farmers will harvest 1.8% less corn than forecast last month, while the soybean harvest will be down 1.3%, but wheat output will be higher in both the US and globally.

The USDA forecasts steeper increases in corn and soybean prices, which have eased from the record levels set earlier in the year.

December corn rose 30 USc, or 5.6% on Friday to $US5.6325 a bushel in Chicago. That pushed prices up 2.7% this week. That left the price of the most active contract down 30% from the all time high of $US7.9925 in late June.

November soybean futures rose 26c, or 2.2%, to $US12.02 a bushel in Chicago. The price rose 2.1% last week. Beans are down 27% from the all time high of $US16.3675 hit in early July

The USDA said the average cash corn prices in the crop year that began September1 were $US5.50 a bushel, compared with $US5.40 estimated in August and $US4.20 in the most recent year.

The Department said cash soybean prices will average $US12.35 a bushel this crop year (which started on September 1), up from last month’s estimate of $US2.25 and up from $US10.15 in the previous year.

 

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Wheat was the odd one out with prices falling for a third straight week after the USDA made no change in its estimate of US domestic stocks in the coming year, suggesting that there might be more grain than the market thought.

The USDA said it expects US carryover stocks on May 31 (the end of the wheat crop year) will be around 574 million bushels, while exports will total 1 billion bushels, matching the forecasts made in August by the USDA.

December wheat futures fell 7c to $US7.1925 a bushel on Friday, down 4.3% over the week and 19% this year.

The USDA also increased its estimate of global production to a record 676.3 million tonnes, up from last month’s forecast of 670.8 million tonnes.

Canadian farmers will harvest 25.4 million tonnes, up slightly from the August forecast of 25 million tonnes; European Union output will be 147.2 million tonnes, up from 143.2 million tonnes in the August forecast and these will offset declines in Australia and Argentina: Australia will produce 22 million tonnes, down from the 25 million tonnes in the August forecast and Argentina growers may harvest 12.5 million tonnes, 1 million tonnes down on the August estimate.

According to the USDA’s forecast, the US is expected to be the largest exporter of wheat, followed by Canada, Russia, Australia, Ukraine and Argentina.

 

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Copper had its best week in three, rising sharply on Friday as the US dollar lost ground against the euro.

Comex December copper futures added 7.15 USc, or 2.3%, to $US3.194 a pound. The price was up 3.1% last week

The metal climbed from Wednesday-Friday, as signs of declining mine output increased concerns that supplies may be tight next year. Some analysts, especially at Citigroup, are forecasting demand to run ahead of production next year.

Copper was also supported Friday by a fall in Chinese stocks.

Stocks overseen by the Shanghai Futures Exchange dropped 29% to 13,554 tonnes, the lowest level since 2003.

On the London Metal Exchange, three month copper rose $US192, or 2.8%, to $US7,122 a tonne, or $US3.23 a pound.

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Gold jumped Friday, ending a nine-day losing streak, thanks to the US dollar’s fall against the euro.

The euro rose as much as 1.5% against greenback, but ended off 0.3% for the week.

The Australian dollar finished at $US82.36 in New York, up from $US80.48 in Sydney on Friday afternoon and $US81.64 in Sydney the week before.

It was a rare gain for the currency, the first for a month or more over the week and the strongest daily performance for weeks.

Gold fell 4.8% over the week, despite a $US19 dollar an ounce rise on the day.

Comex December gold rose $US19, or 2.5% to $US764.50 an ounce in New York. The metal had fallen 11% from the end of August to last Thursday

Silver also had a rare rise, finishing up 24c, or 2.3%, to $US10.795 an ounce for the December contract. The metal still dropped 12% last week and is down 28% this year.

Gold is down 26% from the record $US1,033.90 reached in March and is off 8.8% in 2008.

 

 .

Far from Over: A Short-Term Correction
in the Commodities Bull Market Provides
Opportunities to Late-Comers and
Savvy Investors

Commodities, especially oil and gold, are in a correction. But make no mistake: We’re NOT at the cusp of a bear market. On the contrary, smart investors should take advantage of currently depressed prices to aggressively accumulate shares in select precious metals and energy companies.

Since hitting an all-time high on July 3, 2008, the benchmark Reuters-CRB Index has declined 20% while crude oil prices have tanked 25%. Other commodities have declined even more. And gold stocks, as measured by the XAU Gold & Silver Index are down a blistering 35% since June.

Admittedly, the recent peak in oil prices was extreme, if not symptomatic of a short-term “bubble.” The same was true for most commodities where institutional fund-flows were manic in the hunt for positive returns the first six months of 2008.

Commodities have been the prime recipients of a global institutional boom. We’ve seen more commodity exchange traded funds this year. Also, hedge funds have been pouring money into commodities as managers searched for one of the few remaining profitable market segments in an otherwise horrible year for equities and bonds.

So Much for the “Big Trade”

The “big trade” over the last 12 months for hedge funds has been riding the wave in commodities, including oil and shorting or betting against financial stocks. And that trade reversed violently in July.

But while the market is right to discount a slowing global economy, it’s wrong to assume that the bull market in oil and most other commodities is over. You simply can’t make a case for the death of the bull when short-term cash rates are still below the rate of inflation and global money-supply (M-2) is growing in excess of almost 20% year-over-year, according to Grant’s Interest Rate Observer.

It seems as though investors who don’t remember the lessons of history are doomed to commit the mistakes of the past.

Remembering the 1970s Correction

Commodities are extremely volatile. Knowing that, it’s flat-out ridiculous to call this decline “a bear market” just because prices are down 20%. Oil, gold and other commodities plunged by almost 50% in the mid-1970s during the bull market. Then commodities went utterly gangbusters by 1980. Commodities can decline sharply even in a secular bull market.

But what about the U.S. dollar and its impressive 360-degree turn since mid-July against all major currencies? Isn’t that a bad omen for commodities? No. Longer term, the dollar is relegated to the dustbin as a laundry list of deficits hamper any serious gains or bear market rallies.

What’s amazing here is that everyone is running to buy dollars when the United States is still accumulating out-of-control deficits.

The Treasury’s budget deficit in July nearly tripled to US$102.77 billion, up 182% from July 2007. But what difference does it make? The U.S. just spends like crazy and the rest of the world finances this ponzi-scheme. It might not be this year or next year. But at some point, there will be a global crisis in confidence as America’s debt-to-GDP ratio, already at 6%, just explodes to uncontrollable levels.

But it’s not just budget deficits that threaten the dollar. There are also trade deficits as far as the eye can see. We’re also seeing two seemingly endless and expensive military conflicts. We have bulging social entitlement spending programs that have yet to peak. Not to mention, we have to finance more expensive financial institution bail-outs including the costly nationalization of Fannie Mae and Freddie Mac. The list goes on and on…

How can a sensible investor not own gold and other tangibles in this madness?

In order for the United States to support all of this profligate spending it must expand credit or print money. And printing this sort of money – a colossal amount – will ultimately result in much higher inflation in 24-36 months.

Central Banks Are Determined to Stoke Inflation and That Will Benefit Commodities

Any way you slice it, this has been a bruising correction for commodities. But don’t call it a bear market. Commodities, unlike stocks, are far more volatile and can record daily price swings that are extremely wild – exceeding 5% or even 10% in a single day.

But bull markets in commodities don’t end with negative inflation-adjusted interest rates or with global money-supply (M-2) expanding at more than 20%. In the 18 years I’ve been in this business I’ve never seen credit expand at this rate – never. This tells me world governments are growing desperate to grow inflation amid a deflation in credit expansion and real estate. It’s inflate or die for the world’s central banks.

The next few months might continue to be painful for commodities. We are probably more than 50% of the way through this correction now with many commodities still in net supply deficit.

The way I see it, investors are confused because they can’t identify the current stage of the economic cycle. Are we still in an inflationary surge or is this the beginning of global deflation?

It’s this seemingly new direction in asset prices since mid-July that has triggered a wholesale run on commodities and an up-crash for the dollar. It’s been lightning fast and many investors are getting mauled.

It looks like the world economy is starting to deflate after a big post-2002 expansion. The forces of inflation and deflation are now fighting each other for the first time since 2001 and ultimately, inflation will win. If it doesn’t then the banks, financial markets, housing and everything else that revolves around finance and credit goes into the gutter.

Time to Print Like There’s No Tomorrow Again

Central banks are aware of this, especially Bernanke, a devout Great Depression scholar.

For the Fed and other central banks the strategy is to rescue the global financial system from the economic abyss or deflation. That means they’ll print credit like there’s no tomorrow. The Fed, the European Central Bank, the Bank of Japan and their international buddies are going to accelerate the expansion of credit to avoid a devastating deflation. Inflation will triumph.

The world still needs oil, it still has to drill for oil and gas, and gold production won’t grow for at least another 24 months amid ongoing supply disruptions in South Africa and Australia.

Oil drilling, major oil producers and gold mining stocks are my favorite long-term growth themes within the resource complex and are incredible purchases right now. Energy and gold mining stocks are incredibly attractive at these bombed-out levels and should be aggressively accumulated. Also, the offshore oil drillers are down by a quarter since July and are still home to the best profits in the energy patch.

It’s not just the U.S. anymore. The entire global economy is slowing down. Several countries in Europe and Asia are already either in recession or teetering on the brink of a contraction in output. But there’s one country that’s managed to remain relatively unscathed: China.

Yes, the world’s main driver of commodity consumption this decade continues to grow. That tells me that the recent decline in commodities is way overdone.

Since hitting a peak on July 3, the benchmark Reuters/CRB Index has plunged 25%. All commodities representing this index have declined sharply, including crude oil (32%), gold (22%), copper (22%) and the grains (28%).

China is still one of the more formidable factors supporting raw materials. As commodities have crashed recently, the Chinese are once again hoarding industrial metals like copper, tin, and steel scrap.

The U.S. credit problems won’t stop the Chinese from grabbing commodities - especially when the U.S. dollar inflation-adjusted interest rates are in negative territory. The U.S. Fed Funds currently stands at 2% versus 5.6% inflation through July.

China can’t afford a recession. A major contraction in output would devastate the economy and result in tens of millions of people becoming unemployed. To combat a recession, the Chinese have started to expand credit again after tightening the money-supply since 2006 in small increments. The People’s Bank of China also has the capacity to spend heavily and finance continued expansion.

If you think the Federal Reserve has muscle, think again. China is home to more than US$1.7 trillion in foreign-exchange reserves. They can literally bailout the entire American banking system with one check. They’ll do everything they can to keep this expansion going strong.

Meanwhile, commodities are now heavily oversold. In the span of just 60 days, the world has become obsessed with deflation. Just a few short months ago, inflation fears ruled the markets. That’s a major flip-flop. Commodities are not good deflation-based hedges. Like most assets, commodities decline amid deflation.

In my eyes, the U.S. government has played a big role “talking down” commodities by attacking oil trading speculation. The government blames hedge funds and other speculators for US$147 oil in July. Nonsense.

Was the government helping these same speculators when oil was trading at US$15 back in 1998? Of course not. In an election year, it’s really no surprise the Feds are targeting oil prices. They wanted lower oil prices and they got it.

The macroeconomic picture is also a factor hitting commodities.

The global economy is slowing this fall. Europe is several months behind the United States in this credit squeeze and Japan is basically in recession again. But the emerging markets should get a dose of good news as oil and food prices have plunged by about 25% since July.

These countries, including China, will continue to expand even at the expense of weaker exports. China, India and many other emerging markets are piling billions into domestic infrastructure projects. I’m expecting these and other domestic projects to keep these markets humming until the West can stabilize credit markets.

Commodities are in a brutal correction. We saw similar dramatic pullbacks in 1974-1976 before the sector resumed its historical bull market run to its peak in 1980. It isn’t over yet.

Commodities, especially oil and gold, are in a correction. But make no mistake: We’re NOT at the cusp of a bear market. On the contrary, smart investors should take advantage of currently depressed prices to aggressively accumulate shares in select precious metals and energy companies.

Since hitting an all-time high on July 3, 2008, the benchmark Reuters-CRB Index has declined 20% while crude oil prices have tanked 25%. Other commodities have declined even more. And gold stocks, as measured by the XAU Gold & Silver Index are down a blistering 35% since June.

Admittedly, the recent peak in oil prices was extreme, if not symptomatic of a short-term “bubble.” The same was true for most commodities where institutional fund-flows were manic in the hunt for positive returns the first six months of 2008.

Commodities have been the prime recipients of a global institutional boom. We’ve seen more commodity exchange traded funds this year. Also, hedge funds have been pouring money into commodities as managers searched for one of the few remaining profitable market segments in an otherwise horrible year for equities and bonds.

So Much for the “Big Trade”

The “big trade” over the last 12 months for hedge funds has been riding the wave in commodities, including oil and shorting or betting against financial stocks. And that trade reversed violently in July.

But while the market is right to discount a slowing global economy, it’s wrong to assume that the bull market in oil and most other commodities is over. You simply can’t make a case for the death of the bull when short-term cash rates are still below the rate of inflation and global money-supply (M-2) is growing in excess of almost 20% year-over-year, according to Grant’s Interest Rate Observer.

It seems as though investors who don’t remember the lessons of history are doomed to commit the mistakes of the past.

Remembering the 1970s Correction

Commodities are extremely volatile. Knowing that, it’s flat-out ridiculous to call this decline “a bear market” just because prices are down 20%. Oil, gold and other commodities plunged by almost 50% in the mid-1970s during the bull market. Then commodities went utterly gangbusters by 1980. Commodities can decline sharply even in a secular bull market.

But what about the U.S. dollar and its impressive 360-degree turn since mid-July against all major currencies? Isn’t that a bad omen for commodities? No. Longer term, the dollar is relegated to the dustbin as a laundry list of deficits hamper any serious gains or bear market rallies.

What’s amazing here is that everyone is running to buy dollars when the United States is still accumulating out-of-control deficits.

The Treasury’s budget deficit in July nearly tripled to US$102.77 billion, up 182% from July 2007. But what difference does it make? The U.S. just spends like crazy and the rest of the world finances this ponzi-scheme. It might not be this year or next year. But at some point, there will be a global crisis in confidence as America’s debt-to-GDP ratio, already at 6%, just explodes to uncontrollable levels.

But it’s not just budget deficits that threaten the dollar. There are also trade deficits as far as the eye can see. We’re also seeing two seemingly endless and expensive military conflicts. We have bulging social entitlement spending programs that have yet to peak. Not to mention, we have to finance more expensive financial institution bail-outs including the costly nationalization of Fannie Mae and Freddie Mac. The list goes on and on…

How can a sensible investor not own gold and other tangibles in this madness?

In order for the United States to support all of this profligate spending it must expand credit or print money. And printing this sort of money – a colossal amount – will ultimately result in much higher inflation in 24-36 months.

Central Banks Are Determined to Stoke Inflation and That Will Benefit Commodities

Any way you slice it, this has been a bruising correction for commodities. But don’t call it a bear market. Commodities, unlike stocks, are far more volatile and can record daily price swings that are extremely wild – exceeding 5% or even 10% in a single day.

But bull markets in commodities don’t end with negative inflation-adjusted interest rates or with global money-supply (M-2) expanding at more than 20%. In the 18 years I’ve been in this business I’ve never seen credit expand at this rate – never. This tells me world governments are growing desperate to grow inflation amid a deflation in credit expansion and real estate. It’s inflate or die for the world’s central banks.

The next few months might continue to be painful for commodities. We are probably more than 50% of the way through this correction now with many commodities still in net supply deficit.

The way I see it, investors are confused because they can’t identify the current stage of the economic cycle. Are we still in an inflationary surge or is this the beginning of global deflation?

It’s this seemingly new direction in asset prices since mid-July that has triggered a wholesale run on commodities and an up-crash for the dollar. It’s been lightning fast and many investors are getting mauled.

It looks like the world economy is starting to deflate after a big post-2002 expansion. The forces of inflation and deflation are now fighting each other for the first time since 2001 and ultimately, inflation will win. If it doesn’t then the banks, financial markets, housing and everything else that revolves around finance and credit goes into the gutter.

The downturn in commodities since the middle of July has been pretty vicious and this week it seemed to be made more tense by the way the market fell across the board as Hurricane Gustav squibbed it and didn’t prove to be the major destroying storm that many had feared. The way, oil, gold, copper and other metals, plus major grain prices fell after the passing of Gustav indicates that the old fear about supply shortages no longer dominates thinking in these commodity markets. Most commodities were weaker to  steady overnight Wednesday, but it was more of a holding pattern than any sort of recovery. For Australia, as we start enjoying the fruits of the boom, it’s a timely reminder that more needs to be done here to make the economy more efficient and more productive. We are at present relying on higher receipts for our coal and iron ore exports and not much more as prices for other resources have titled downwards since the slump started. If anything should slow China’s economy in the next year or so to a much lower level of growth, then we will be exposed to a much sharper slump in activity than we saw with yesterday’s GDP numbers. The Reuters-Jefferies CRB index, a global benchmark for commodities prices, has fallen 18.9% since June 30, to a six-and-a-half-month low, after surging in the first half by almost 30%. July was in fact the worst month for many commodity indexes for 30 years or so because mainly of the steep drop in oil prices. Prices are still higher than they were a year ago, but as we move through the rest of 2008 and into 2009 that premium will either simply disappear with each month’s comparison, or will show up in more price falls to the point where the comparison is negative. We have to assume that just as commodities probably overshot and went to high from March through mid-July that prices will overshoot on the way down and fall to unsustainably low levels.  But some analysts warn that because their financial investors involved there could be a much steeper fall than expected simply because of the impact of momentum. Oil is trading closer to $US100 a barrel than it has for more than five months, gold eyed and eased under $US800 an ounce, copper, is glancing towards the $US3 a pound level and wheat, soybeans and corn futures prices are busy retracing former price rises. Gold was trading at $US799.90/800.90 an ounce in Asia late yesterday, down from $US804.90/806.25 an ounce late in New York Tuesday, when it fell as low as $US790.40 after oil dropped and the dollar rallied. It traded just above $US800 an ounce in New Yortk overnight.Gold struck a nine-month low around $US773 in mid-August. Oil traded around $US109 a barrel in New York. This sharp sell off in commodities, led by oil seems to have had its first notable victim among investors with a multi-billion dollar hedge fund imploding and now facing being broken up. Bloomberg has reported that this slump had ensnared Ospraie Management of the US which is going to close its biggest after it fell almost 27% in August and 38.6% from the start of 2008. It’s 20% owned by the struggling Lehman Bros investment bank. Bloomberg said the Fund had a value of $US2.8 billion at the start of last month, so the loss would have been in the order of $US750 million in the month. Bloomberg said a letter from founder, Dwight Anderson, to investors explained that the Ospraie Fund lost 26.7% in August, after a “substantial sell-off in a number of our energy, mining and resource equity holdings.” “I am extremely disappointed with this result and the fund’s sudden reversal in performance. After nine years of striving to be a good steward of your capital, I am very sorry for this outcome.” The Ospraie Fund was started in 1999.

 

Bloomberg said that the closure of the Ospraie Fund leaves the New York-based firm overseeing three remaining funds with more than $US4 billion in assets, down from $9 billion in March.

Commodity market indexes fell by around 10% in August, and are off 20% since the slump started in Mid-July as investors switched out of mining and resource investments and into mainly US shares because of expectations the US wouldn’t slump as much as Europe, Asia the UK or Japan would.

It sold out of Iluka in recent days, according to a statement to the ASX from the beach sands miner and processor yesterday evening

Oil closed at around $US115.46 a barrel in New York on Friday before the holiday long weekend. At one stage overnight the price was down around $US105 a barrel.

Copper plunged as well, losing nearly 11 US cents a pound in New York to close at $US3.29 a pound (a seven month low) while gold fell by around $US24 to $US810 an ounce.

The Australian dollar weakened, falling to a day’s low of 82.70 US cents, that’s also the lowest for around a year. It then recovered back over 83 US cents.

While that followed the Reserve Bank’s 0.25% rate cut yesterday, it wasn’t the major reason. The rate cut had been widely expected and was in the price of the currency: it was the sharp drop in oil, copper and other commodities that hit resource-based currencies including the Aussie overnight.

The futures prices for wheat, corn and soybeans all fell sharply as well as Gustav faded.

It was a significant slump across the board for commodity prices. Metals in London, led by lead also fell sharply.

Markets were tossed around as investors wondered about whether this rapid correction would finish.

Not helping was a gloomy assessment of the current state of the world’s major economies that helped ended the whoopee over oil prices.

The Organisation for Economic Cooperation and Development warned that overall, “the picture for the major economies is of a particularly weak second half”.

It saw a growth uptick for the US, but the eurozone and UK economies will “barely creep forward” in the second half of this year.

The OECD suggested that global financial turmoil might be entering a “new phase” with the stream of bad news reported by banks now reflecting generally economic weakness rather than direct effects of the credit squeeze.

The OECD revised up significantly its forecast for US growth this year, after significantly stronger-than-expected second quarter data. It expected 1.8% growth, compared with its previous forecast of 1.2%.

But surveys out yesterday showed a sharper than expected fall in US construction spending and a contraction in manufacturing, led by a drop in forward orders, employment and inventories. Exports were up and inflation eased.

The OECD gave itself an out by warning that there was a lot of uncertainty about how quickly the effects of the US fiscal stimulus package would fade.

The OECD was worried about inflation in Europe and overnight those concerns were given some additional impetus with news that producer prices in the 15 country eurozone rose 1.1% in July, compared with 1% in June. That made for an annual rate of 9% (not much different to the US) in the year to July.

European retail sales fell 2.1% in July compared with July 2007, after a record 3.1% drop in June.

That won’t be enough to get the ECB to cut rates tonight, while the Bank of England’s next move is unclear, despite the overwhelming weight of gloomy news about the British economy. Its decision will come tonight, our time

A desperate Labour Government has attempted to boost the sinking housing sector by significantly expanding the stamp duty exemption on house purchases of homes worth up to 175,000 pounds from 125,000 pounds. It will cost near $A2 billion in a budget already heavily in deficit.

Money will also go to helping people avoid repossession (nearly $A400 million). But the British pound continued its worst fall in 16 years.

 

 

With the recent correction price moves on the commodities markets, it’s useful to make regular updates to see whether it’s just a short-term retracement or a real downtrend.

Because the fundamentals have not really changed, most of the investors believe that the recent fall in commodities prices is just a healthy pause in the global long-term bullish trend. Therefore, on the charts, intermediary supports that may represent opportunities to enter new long positions are particularly watched.

This has been the case on the Nickel market. In our last update, posted on August 1st, we were saying that a rebound was likely soon as the price action was just about to reach an intermediary support, around $18,000.

The rebound occurred. Let’s have a look at the chart. Actually the price action posted a low on August 5 at $17,445 then bounced back sharply. A ton of Nickel is now trading around $21,000. It’s a 20% rise in 3 weeks. As expected, the previous highs posted in early 2004 and in May 2005 (points D and E on the chart) became the new low (point F).
Nickel prices had plunged so deep the last few months that a lot of mines had stopped temporarily their production. The production costs are high therefore it was not profitable anymore to run them. For example, the Swiss company Xstrata announced that it had closed its Falcondo mine during 4 months.

Now stainless steel demand appears to weaken. The Chinese Shanxi Taigang has announced that it would decrease its nickel production by 50% as the demand of stainless steel is slowing. This does not back the prices rebound.

Therefore the rebound on Nickel prices is likely to be a technical correction rather than the beginning of a new momentum on the upside. Don’t forget that the prices plunged by 67% from May 2007 to August this year.

The MACD and the RSI are well oriented, it’s a bullish configuration. The RSI shows that indeed the nickel was recently obviously oversold. Both of those indicators argue for a further rebound on the near-term.

However we will wait more to see if there is a longer-term momentum that is building and that may create a new uptrend. For the moment the level of $25,000 should be a strong resistance for the current price action. This target is a previous support line where the prices had rebounded in August and in December 2007 (points B and C). Once again, previous lows will be probably the new highs. Consequently a consolidation phase is likely during the coming months between $18,000 and $25,000.

A bullish momentum and a new uptrend would be possible if the resistance at $25,000 is cleared. On the other side, the bearish trend would continue if the price action breaks down below the support of $18,000.

From its high in early July the benchmark Reuters-CRB Index has declined 19% while crude oil prices have tanked 23%. Other commodities have declined even more.

Oil stocks, as measured by the Spiders XLE Index (XLE) are down 22.5% from their highs while the Dow Jones Oil Equipment and Services Index is off 21% from its best level.

Commodities, including oil, are in a correction. But don’t be mistaken: We’re definitely not at the cusp of a bear market for oil or commodities.

The market is right to discount a slowing global economy this year as credit problems and stagflation spread to overseas economies. It’s wrong to assume that the bull market in oil and most other commodities is over. Short-term cash rates still below the rate of inflation and global money-supply is still growing in excess of almost 20% year over year, according to Grant’s Interest Rate Observer.

In its fight to control deflation in housing and bank credit, the Federal Reserve will continue to pump the financial system with more money. Massive government bailouts don’t come cheap. Over time, inflation, which is now moderating, will make a comeback.

And what about the dollar?

Just because the dollar is soaring doesn’t imply that trend will last, either. The Fed is not going to hike lending rates for at least another 12 months and foreign central banks won’t start cutting rates until inflation eases.

The dollar may be in a bear market rally now, but the buck simply doesn’t have interest rate support from the Fed. Plus, the economy remains mired in a severe slowdown or recession across several important industries.

At the very least I expect the rate of dollar appreciation to slow over the next few weeks as profit-taking arrives and more signs of credit contraction plague the domestic economy. If anything, I’m expecting the Fed to cut, not raise, interest rates in 2009. That won’t be bullish for the dollar.

Tune in tomorrow, and I’ll tell you how to take advantage of this dollar strength and short-term oil correction.

The majority of energy stocks have struggled this year as oil prices raced to a record high of US $147 a barrel. Stocks simply couldn’t rally as the bear market in global stocks applied downward pressure on the entire complex.

Oil futures tell a completely different story. While major U.S. and international oil companies rose only 3.5% from January 1 to July 11, oil futures rose an astounding 63%. Over the same period, the S&P 500 Index tanked more than 10%.

Admittedly, the recent peak in oil prices was extreme and indicated a short-term “bubble.”

Commodities have been the prime beneficiaries of the global institutional boom. Industry players have already created a flurry of exchange traded funds to take advantage of this commodity bull market.

Also, hedge funds have turned to commodities to gain exposure to one of the few remaining profitable segments of the market. In fact, hedge funds’ “big trade” over the last 12 months has been riding the wave in commodities, including oil and shorting or betting against financial stocks. That trade violently reversed last month.

Another dose of bad news for commodities lately is the dollar’s rapid recovery. With the dollar in a freefall over the last few years investors had scrambled to hedge their portfolios against rising inflation and a decaying currency. But that trend is over, at least for now.

Gold finished below $US 800, finishing the biggest weekly slide for the metal in a quarter of a century as punters, speculators and anyone else just went off the metal big time. The surging greenback helped, but there seems to have developed a real disinterest in the metal, despite the continuing instability in Georgia and Russia’s bellicose stance. Seeing gold peaked at $US1033.90 on March 27, it’s now at $US792.10, down more than $US240 an ounce, or more than 23%. Comex December gold fell $US22.40, or 2.8%, to $US792.10 an ounce on Friday in New York. The metal fell 8.4% last week, the biggest drop for a front contract since February, 1983. Gold has fallen every day this month except for a 2.1% gain on August 13. December silver futures fell $US1.43, or 10%, to $US12.93 an ounce on Comex, the biggest fall for a most-active contract since June 13, 2006. Prices are still; up on a year ago, but the gap is shrinking. That gold prices peaked a good four months before oil did means investors lost faith in gold before the final surge in inflation off the back of the roaring price of oil. World prices retraced back to well over $US900 an ounce as inflation surged in May- July off the back of higher oil and petrol prices and the continuing impact of high food prices. But it never followed oil back into record territory. Falling demand from users, such as jewellers looks to have been more important than speculative interest: an oversupply of the metal started depressing prices. That’s an old fashioned concept, supply exceeding demand in these days of hedge funds and other ‘financial’ investors. That’s the view of the World Gold Council in its second quarter wrap up, released last week. Here’s what it reported: “The high and volatile gold price continued to dampen demand in tonnage terms during Q2, particularly for jewellery. While the average gold price, at $896.29/oz based on the London pm fix, was well below the peak of $1,011/oz seen in mid-March, it nevertheless represented a 34% rise on the average price of Q2 2007. Total identifiable demand fell 19% relative to year earlier levels to 735.6 tonnes. In contrast, total demand in value terms rose 9% on year-earlier levels to reach US$21.2bn – a new all-time quarterly record. In volume terms, jewellery was the biggest contributor to the overall annual decline, falling by 158.7 tonnes (24%) to 504.0 tonnes. However, despite the adverse economic conditions affecting much of the globe, consumers continued to increase their spending on gold jewellery. In value terms, demand rose 2% from year-earlier levels to $14.5bn, a new quarterly record. Identifiable investment demand was also softer than year-earlier levels as some investors took profits, but was nevertheless more resilient to the high gold price than jewellery demand. The 4% decline in tonnage relative to year-earlier levels represented a 9% decline in net retail investment; partly offset by a change from small net disinvestment to small net investment in Exchange Traded Funds (ETFs) and similar products. Inferred investment demand (which cannot be directly measured and is proxied by the statistical residual) continued to enjoy sizeable inflows. During July, total gold held in gold Exchange Traded Funds exceeded 1,000 tonnes for the first time.

 

Second quarter industrial and dental demand declined by 5% to 111.8 tonnes, primarily due to declining demand for gold in the dental and ‘other industrial’ sectors, in response to the continued high gold price. In value terms, this was equivalent to $3.2bn, a rise of 27%.

Gold supply grew by 1% in tonnage terms relative to year-earlier levels. A 13% increase in scrap due to the higher gold price was offset by a 4% reduction in mine output. Supply was also restricted by lower central bank sales.

India was the biggest contributor to the fall in gold demand during Q2, as it was in the first quarter. Both jewellery and investment demand were severely affected by the high and volatile gold price and higher local inflation, which has squeezed disposable incomes.

Jewellery demand in Q2 was down 47% in tonnage terms on the levels of a year earlier, while net retail investment fell 41%. Indian demand also fell in US$ value terms, by 29% in jewellery and 20% in investment.

Other major gold consuming nations experienced a more mixed quarter. On the jewellery side, only China and Egypt experienced a rise relative to year earlier levels in tonnage terms.

In China’s case, the rise was just 2% while in Egypt the rise was somewhat larger at 8%.

High levels of the gold price, and high volatility, have been a key deterrent along with rising petrol and food prices, which have squeezed disposable incomes. 

Countries and regions that suffered the largest decline in percentage terms (apart from India) included the US (-30%), Taiwan (-20%) and the UK (-20%), and the “Other Gulf” region (-23%), which was largely attributable to a decline in Kuwait.

Nevertheless, the fact that the dollar spend on jewellery in most countries remains above last year’s levels is encouraging given the current economic environment.

Countries that enjoyed strong growth in net retail investment inflows included China, the US and Vietnam.

Higher inflation and falling stock markets were a common theme in all three countries, highlighting the inflation hedging and safe haven motives for investing in gold.

Net investment demand in Vietnam in H1 2008 totalled 56.8 tonnes, already just outstripping the 56.1 tonnes recorded for the whole of 2007. In Q2 2008, demand more than doubled in China from 4.3 to 9.8 tonnes, and in the US, rose from 1.2 tonnes to 11.3 tonnes.

In Japan, sales of existing gold holdings by investors seeking a profit outweighed purchases to the tune of 12.1 tonnes.

This level of net selling back was well below the record 39.3 tonnes seen in the previous quarter, reflecting the move in the gold price down from its earlier highs.

 

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September crude oil fell $US1.24, or 1.1% in new York Friday to finish at $113.77 a barrel. That left it off 1.2% in the week.

Figures from the American Petroleum Institute show that demand for petrol fell 2.1% in the seven months to the end of July. Petrol prices at the retail level in the US continued to fall at the weekend, closing at $US3.77 a US gallon, well down on the all time high of $US4.11 reached on July 17.

 

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Copper rose Friday for the second time in a week on signs of supply adjustments to the falling world price.

Jiangxi Copper, China’s second-biggest smelter of the metal, said last week it would cut output of copper rods and wires by 30%. This is on top of other cuts by other Chinese producers in recent weeks.

Comex copper December delivery rose 1.65 US cents a pound in New York on Friday, to $US3.3145 a pound.

The price fell 0.4% over the week.

 

 

After a longer than normal delay, commodity prices have entered a significant correction on the back of slumping global growth and a stronger $US.

Notwithstanding, occasional bounces (such as that seen in the last 24 hours) the downwards correction in commodity prices has further to go over the next six months or so.

The AMP’s Dr Shane Oliver says this is good news for the global growth outlook and for shares generally as it takes pressure off inflation and hence clears the way for lower interest rates.

But it is bad news for resource shares and the $A, as we have seen with its 12 cent fall in a month against the US dollar.

While the correction in commodity prices has further to go, their long-term trend is likely to remain up, he says.

 

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Commodity prices have fallen sharply.

From recent highs oil, gold and copper prices have fallen around 20% and wheat and corn prices are down around 30%.

Of course this has occurred from very high levels, as evident below.

What is driving the slump in commodity prices?

What are the implications?

Is this the end of the commodity bull market or just a correction?

 

Commodity prices and the global growth cycle

In a normal global economic downturn commodity prices fall in response to slowing economic activity.

This takes pressure off costs and inflation, allowing interest rates to fall which sets the scene for an economic rebound.

This time around has been a bit different. Until a month or so ago commodity prices remained very strong being propelled by still strong growth in the emerging world (notably China), investor demand for commodities as a hedge against a falling $US, and speculative demand made possible by the growth of commodity funds and partly fuelled by investor scepticism with financial assets.

The problem was that the surge in commodity prices, notably for oil, was not only cutting into profit margins and consumer spending power but that it was directly adding to global inflation; this was keeping global central banks far more hawkish than they should have been.

So while the credit crunch meant interest rates should have been falling, in the US and UK and being increased in others (e.g., in Europe and Australia).

The end result has been more global economic pain than would normally be the case.

 

Back to normal

The past month has started to see commodity prices return to something like their normal relationship with the global growth cycle with sharp falls now becoming evident.

There are several reasons for this.

Firstly, recent data has shown that Japan and Europe are flagging just as badly if not worse than the US. In fact the recent flow of economic indicators suggests that both regions may now be in recession.

This is bad news for the emerging world including China because they will find it harder to divert their exports away from the already weak US.

Secondly, it has become increasingly clear that China, India and other emerging countries are also slowing.

Chinese economic growth looks like being 9 to 10% this year compared to last year’s near 12%.

As a result, Chinese authorities are now starting to back pedal on some of last year’s tightening.

Indian growth is likely to slow back to 7% from 9% last year with aggressive monetary tightening starting to bite.

Growth in Brazil is also likely to slow on rising interest rates.

Thirdly, the slump in share markets as oil went through $US120 a barrel in May and increasing evidence of falling oil demand indicated that the surge in the oil price was starting to “choke off” growth and hence oil demand.

Rising base metal inventories are also starting to become evident. See the chart below.

Fourthly, the realisation that growth outside the US is now slowing faster than that in the US has seen the $US break higher.

This in turn has suddenly removed investor demand for commodities, such as oil and gold, as a safe haven against a falling $US.

The combination of all of these fundamental developments has seen commodity speculators squeezed.

The favourite trade recently was long oil/short banks, but in the last few weeks it has suddenly reversed.

This has forced investors to close their positions, which has only added to the severity of the moves.

A pause, not the end, in the commodity super cycle

China may be slowing but is not about to collapse and the long term demand potential in emerging countries is huge.

China’s copper usage per person is less than half US levels and its oil usage per person is around 10% that of developed countries.

Rising income levels and the increased use of agricultural products for fuel will also see ongoing upwards pressure on agricultural demand.

Just as we have seen in the last six years, supply will struggle to keep up with commodity demand over the long term.

As such, the long term trend in commodity prices is likely to remain up. See the chart below.

In this context the recent pull back in commodity prices should be seen as a correction, but it likely has further to go.

Commodity prices remain well above their rising trend (as evident in the previous chart) and speculative positioning and sentiment regarding commodities is yet to fall back to levels associated with a durable rebound.

More fundamentally the economic news over the next six months is more likely to get worse before it gets better.

The next chart shows the relationship between a leading indicator of world growth (based on the OECD’s leading indicators for OECD countries plus Brazil, Russia, India and China) and commodity prices.

Normally there is a close relationship, but it broke down last year and into mid this year as the leading indicator fell but commodity prices surged.

But a more normal relationship seems to be getting reestablished. As can be seen below, the leading indicator suggests more weakness in commodity prices ahead.

Against this backdrop speculative positions in commodities are likely to be wound back further particularly as the $US now seems to be on a firmer footing relative to other currencies.

In the very short term commodities have become oversold and due for a bounce, but the trend over the next six months or so is likely to remain down.

 

Implications – the good and the bad

The cyclical down turn in commodity prices now underway has a number of implications

Firstly, the correction in commodity prices is good news for the global economic outlook and share markets generally.

Softer commodity prices will remove much of the pressure on inflation.

This in turn will help global central banks move towards lower interest rates and provide greater flexibility to deal with the ongoing credit crunch.

We expect lower interest rates in Europe, the UK, Japan and Australia over the next six months.

Secondly lower commodity prices will also help reduce corporate cost pressures and provide increased spending power for consumers.

To the extent lower commodity prices make it easier for a healing of the global economy it should be positive for global shares generally.

Thirdly, falling commodity prices are of course bad news for resources shares.

As such, there is potential for a further reversal of their relative out performance versus financial shares over the last year.

See the chart below in relation to Australian resources and financial shares

Given the relative importance of resources in the Australian share market, it is also likely to mean that Australian shares may under perform global share markets for a while yet as the commodity correction continues to run its course.

Asian shares are likely to be key beneficiaries of the correction in commodity prices given Asia’s high reliance on commodity imports.

Fourthly the commodity price downswing means the $A has entered a cyclical correction greater than any of the pullbacks seen in recent years.

While the $A is oversold having fallen 13% in four weeks, and so may have a short term bounce, more downside is likely in the months ahead, possibly to $US0.80.

Parity against the $US has been postponed probably till late 2009 after the commodity cycle turns up again.

And lastly a downturn in traded commodity prices will also dampen the terms of trade boost for the Australian economy, adding to the case for RBA interest rate cuts.

 

Conclusion

Commodity prices have entered a cyclical correction which looks like running a bit further.

While this is bad news for resources shares, the relative performance of Australian shares and the $A, it’s necessary to clear the way for lower interest rates to combat the credit crunch.

So overall it’s more good news than bad.

More broadly we think that the commodity super cycle remains alive and well, but a sustained resumption of the uptrend in commodity prices probably won’t get underway till some time next year.

The slump in global commodity prices, led by oil and gold, is looking ominous for producers, and great for consumers and economies like China, India and the US and Europe. But the reasons for the fall are sending a different message; one that you might not want to hear: the rest of this year and much of 2009 is going to be miserable, more miserable than we have so far seen in 2008. Oil prices eased further overnight after initially rising on the fighting in Georgia: prices fell under $US114 a barrel before closing at $US113.01 in New York.  Gold fell more than $US33 an ounce in overnight trading, and then fell a further $US4 an ounce in early Asian trading yesterday to trade around $US828 an ounce, the lowest level since late December, 2007. It then rose a touch, then fell sharply by almost $US16 an ounce to trade around $US813 an ounce. Gold actually hit an intra day low in Asia yesterday around $US802 an ounce.It then recovered and traded around $US822 this morning. Oil is now down more than $US33 a barrel form its peak a month ago of over $US147 a barrel, a fall of more than 22%. Prices have fallen more than $US6 a barrel from before the Georgia fighting started last Thursday. But gold prices have plunged by more than $US50 an ounce since the fighting started last week and that is as good an indicator (along with oil) on the enormous switch in sentiment in global commodity markets. The Australian dollar fell, rose and then fell well under 88 US cents in Asian trading yesterday, while the US currency jumped under $US1.49 to the euro to maintain its rapid appreciation. The Australian dollar was actually closing on 87 US cents late yesterday as oil and gold prices continued to weaken.It was at 87.60 US cents this morning. A month to six weeks ago fighting in such a sensitive area, plus the bombing of a major oil pipeline, like the one in Turkey at the weekend, would have seen a surge in oil prices, while gold would have chased itself higher as nervous bears sought their usual haven of value or protection in volatile times. Now the normally nervous nellies in the markets don’t seem to care. Investors no longer see commodities, especially gold and oil, as havens or plays to make money.It is an astounding change in sentiment. The surge in the US dollar has become too powerful as momentum from big investors searches for new havens of safety. And they have found it in the US which they figure won’t lose as much as leaving money invested in Europe, Australia, New Zealand, or in commodities. Markets like commodities would have reacted negatively to news of war in the Caucasus, which is an important oil-exporting region.

 

The fact that oil and gold prices keep falling strongly suggests that investors/traders now strong believe the world economy is in bad shape. That is bad for oil prices, gold and other actively traded commodities.

If you believe that speculators were responsible for some of the strong surge in commodity prices, then you have to blame them for some of the rapid retreat in commodities in the past month.

When we look back at this time we will see that the first 11 days or so of July were the peak of the current commodity price surge.

But while there’s good news in lower commodity prices, the fact that markets now reckon 2009 is going to be worse than this year isn’t good news.

There are some important statistics due out in Europe (eurozone growth for the June quarter) and the US (retail sales and industrial production) which could confirm the downturn in both giant economies, or at best, sluggish growth.

And what are big investors doing? Selling commodities (open interest positions, which are contracts not closed out or delivered on any given day) are falling, indicating that the investors who plunged into commodities, are retreating.

And they are buying US shares.

But for Australia there’s goodish news from China, with consumer price inflation down and signs the economy is not tanking in an inflationary spiral (See accompanying story).

This slump in oil and other commodity prices is sending a message that global economy will worsen, not improve: a message that the Reserve Bank has been very alert to.

It’s why the bank has been pushing a message of an incipient easing in monetary policy with a rate cut next month.

The Bank is angling to make a pre-emptive cut in rates (just as it launched pre-emptive rate rises, starting a year ago to tackle inflation) to allow the economy room to adjust to any further downturn in the global economy.

Reserve Bank Governor Glenn Stevens has made it clear on a couple of occasions that the bank moved early to act against inflation, not wait until inflation appeared, then act.

It’s why its reading of the global economy, and the rapid slump in domestic activity, has seen it push domestic economic growth to equality with inflation in its short to medium term policy objectives.

And that’s why the National Australia Bank yesterday warned that the RBA had to avoid engineering too hard a landing for the economy.

 

 

It’s now the biggest imponderable for Australian business. Just as we seem to have pushed high oil prices and inflation to the back of the agenda with last week’s Reserve Bank hint of a rate cut, possibly next month, the plunging value of the Australian dollar will force us to keep oil and cost pressures in the forefront of our mind. Exporters will be having a quiet cheer, the pressures of a 98 USc Aussie dollar and the prospect of parity with the US currency, have been ended by the near 10 USc drop in the value of the local currency in the past three weeks. The Aussie fell more than 4% last week alone against the US currency and the loss since its peak last month is now well over 10%. Suddenly exporters are getting more for their exports, while importers are having to pay a bit more, including importers of oil and petrol.  Big investors feel the uS has better recovery hopes than Europe, Japan or emerging markets; even though those emerging markets are still growing and the US is sluggish. Analysts say there’s enough economic information being released in the US this week to eithger back or dash this view. It’s a view that ignores the continuing slump in house prices and forecsts that this will continue for much of the remaining months of 2008.  But the impact will be small to start with, but with the US dollar now on a major rebound against the rest of the world, a fall to below 85 USc must in mind for many analysts. The currency closed at 88.85 USc in New York early Saturday morning, down sharply from the close the previous Friday of 92.92 USc and 95.84USc the Friday before that in Australia.The dollar fell again this morning to under 88.70 US cents. Seeing the currency peaked at over 98USc in early July, it has been a very sharp fall in almost a month The US dollar’s dramatic rally this week has prompted some investors to say its seven-year slide may be over, as the focus shifts from US economic woes to the spread elsewhere of the credit crunch-inspired slowdown. The greenback had its biggest weekly gain against the euro in eight years last week. Friday saw its biggest one day gain in six weeks. The euro fell 3.6% to $US1.5005 Saturday morning, from $US1.5564 on August 1, the biggest weekly decline since January 2005.  The currency tumbled 2.08% Friday touching $US1.499, in what was the second biggest one-day decline since the introduction for the euro in 1999.

 

It is now US 10c below its record high above $US1.60 struck only a month ago.

The rally was driven by The European Central Bank warning on Thursday that growth is slowing, meaning no more rate rises.

It was the ECB’s 0.25% rate increase in the first week of July that prompted the drop in the value of the greenback and surges by the euro, Aussie dollar and other high yield currencies.

The NZ dollar’s rise was stopped a few days later by its central bank cutting rates 0.25% to 8% as recession took control of the Kiwi economy.

Since mid-July, oil prices have tumbled $US30 from their record peak above $US147 a barrel; Japan’s government has said the economy may be in recession, and a continuing series of eurozone indicators have signalled an impending downturn.

Italy in fact Friday revealed its economy was contracting and figures this week could signal the slump evident in Italy, Spain and Ireland has now spread across the entire 15 country eurozone.

Britain is sliding as well, Denmark has slowed and there’s now strong suggestions the German economy has gone from 5% growth in the March quarter to a probable contraction in the March quarter.

The UK pound fell to its lowest level against the US currency in more than 11 years.

The dollar also advanced elsewhere, reflecting the positive shift in sentiment towards the currency that will continue now there’s recession on the way (in the market’s mind in the US, Europe and Japan).

The dollar had solid rises against the US, the Swiss franc and the Canadian dollar as well as the pound, euro, sterling and Kiwi currencies.

After the RBA left interest rates at a 12-year high of 7.25% and signalled a coming rate cut, the downward pressure on the Aussie intensified; especially after the ECB sent its no rate rise message.

The euro’s dramatic drop last week suggests that the currency’s long-term climb - which has almost doubled its value from 2000 to last month’s record high above $1.60 - may be over.

The sharp recovery of the dollar since July is reportedly prompting investors to consider an increased focus on hedging their positions against foreign currency weakness against the dollar: a big change in sentiment in the past few days.

The sell US dollar-buy commodities lurk used to be the easiest money game in town for hedge funds and other aggressive investors after the bottom fell out of credit and equity markets.

It seems no longer, and the possibility of being burnt by a surging greenback is now all too real.