by Kevin Klombies, Senior Analyst

Thursday, June 21, 2007

Chart Presentation: 8-Year Cycle

Energy prices were weaker yesterday as the airlines and autos turned higher. The recent trend has been for strength in energy prices late in the week so continued weakness today would certainly help to suggest that the strong commodity theme has come to an end.

The problem with ‘macro’ arguments is that they can miss by months or even quarters and still appear reasonable when viewed on a long-term chart. However, we wanted to start things off today by showing the 8-year cycle.

The chart shows the CRB Index into the 1982 bottom. This was the low point for cyclical asset prices.

The second chart features Japan’s Nikkei 225 Index into the 1990 top. This index marked the highs for cyclical asset prices approximately eight years later.

The chart shows the CRB Index once again into the next bottom for cyclical asset prices in early 1999.

The chart shows the sum of copper and crude oil futures prices into the 2006- 2007 top.

The argument is that asset prices- including real estate, collectibles, Asian growth, and commodities- tend to make a bottom followed roughly eight years later by a top. The next bottom would then be reached after an additional eight years. The low point in 1982 was followed by a peak in 1990, a bottom towards the end of 1998, and then another top into 2006- 2007.

Our point is that it makes some sense to regard the frantic trading action in the Chinese equity market and in base metals prices as indicative of late-cycle or, perhaps, end-of-cycle activity. Similar to the rotation through the broad equity market that shifted from consumer, financial, and pharma to tech and then eventually into all things ‘internet’ into 2000 the rising trend for cyclical asset prices has recently narrowed. We suspect that any market that values junk over quality to the point where African currencies represent a superior store of value to the U.S. dollar is getting long in the tooth. The 8-year cycle simply suggests that this is an appropriate time- give or take a quarter or three- for a peak in cyclical asset prices.





Equity/Bond Markets

The first page argument was that cyclical asset prices peaked in 1990, bottomed in late 1998, and then moved back to a top over the past year. Another view of this is shown at top right.

The chart compares the stock price of General Motors (GM) with the ratio between the CRB Index and crude oil futures.

The ratio between commodity prices and crude oil bottomed in 1990 in advance of the Gulf War and then peaked in 1998 during the Asian crisis. The trend for this ratio moves very closely with the share price of GM.

The argument would then be that after more than 8 years of driving into a head wind the trend appears set to turn back to positive for the U.S. autos. To confirm this crude oil prices should start to weaken relative to broad commodity prices. We use a similar chart-based argument for the stock price of JetBlue (JBLU) on page 6.

We have commented on numerous occasions recently that we are looking for ‘gaps’. In particular we are looking for positive reactions to news in some of the non-commodity sectors.

Yesterday the stock price of Home Depot gapped higher on news of a massive stock buyback. The sharp rise in HD just happened to occur on the very day that the trend for energy prices began to weaken (XOI/SPX chart on page 4, XOI/XAL chart on page 7).

The stock price of U.S. retailer Target (TGT) took a strong run at the recent highs in early trading yesterday but failed to punch through as index-related futures selling pulled the broad market lower into the close of trading. However, the chart at bottom right makes the case that when stocks like TGT, Cisco, Intel, Microsoft, IBM, etc. turned upwards last summer it marked the peak for energy prices and when these stocks began to flatten out early in 2007 the markets shifted back to the commodity theme. New highs for TGT would suggest that the markets are preparing to move away from the weak dollar/strong energy and metals trend.