Chart Presentation: Sequence

Below are two comparative charts showing the CRB Index (commodity prices), 1-month LIBOR futures (short-term U.S. debt prices), and the ratio between the stock price of Coca Cola (KO) and the S&P 500 Index (SPX). The top chart shows the time frame between 1992 and 1998 while the lower chart begins in 2004 and runs to the present day.

The idea here is that the markets work through a sequence. We begin with the turn upwards in the KO/SPX ratio in 1994.

After a number of years of relative weakness the markets shifted strength back to the large cap consumer stocks during 1994. Stocks like Coke and Johnson and Johnson (JNJ- chart on page 4) began to rise in mid-1994 as short-term interest rates moved higher (i.e. 1-month LIBOR futures prices declined).

About six months after the KO/SPX ratio began to trend upwards U.S. short-term interest rates peaked as 1-month LIBOR futures prices stopped falling and started to trend sideways.

The point is that the large cap consumer stocks turned higher first followed in due course by a top for interest rates. Commodity prices, however, did not reach a top until the spring of 1996.

The lag between strength in the consumer stocks in 1994 and the eventual peak for commodity prices in 1996 appears to have some relevance today. After all the KO/SPX ratio along with many of the large cap consumer and pharma names turned upwards around the start of 2006 and now close to two years later we have passed the peak in short-term interest rates and are still mired in what appears to be a relentlessly rising commodity market.

The point is that if we take this comparison literally- and it is intriguing to do so- then the sequence begins in mid-1994 and the beginning of 2006 leading into the peak in short-term yields six months later at the start of 1995 and mid-2006 and then moving into a final top for the CRB Index in the spring of 1996 that would line up with a peak for commodity prices this year some time around the middle of the fourth quarter. In other words… right about now. If the markets are following the same path as last decade the commodity theme should finally swing negative this quarter with a cycle bottom due perhaps towards the end of 2009.

Before shifting these charts to the back pages for periodic update we wanted to take another run at explaining what we are looking for and at. The chart at right compare the NASDAQ Composite Index, the Bank of Montreal, and the ratio between the BMO and NASDAQ from 1998 through 2001. The chart below right shows the Hang Seng Index, Japan’s Matsushita (MC), and the MC/Hang Seng Index ratio from late 2005 to the present period.

The argument was that major cyclical bull markets tend to feed off of capital that is drawn from those sectors that are underperforming. One could argue that major cyclical bull markets also tend to put upward pressure on interest rates which, in turn, puts downward pressure on many of the financials.

Through 1998 and 1999 the NASDAQ was driving upwards as the BMO declined and then the entire process reversed into 2001 with both markets returning to their original price levels. If one were long the BMO between 1998 and 2001 there would have been no net gain or loss and the same would be true for owning the NASDAQ. In between, of course, there were huge opportunities for profit and loss.

It may be more fair to compare the Bank of Montreal between 1998 and 2000 with another bank stocks so we have included a comparison with Mitsubishi UFJ (MTU) below. If the downward pressure on the BMO began at the end of the second quarter of 1998 then similar pressure hit MTU around the end of the first quarter of 2006. If the downward corrections for both were to run the same length of time then MTU would be bottoming this quarter in the same manner that BMO bottomed into March of 2000 at the exact peak for the NASDAQ.