Chart Presentation: Time, Gentlemen, Please

We admit that we welcome the end of the first quarter of 2008. It was three months of markets-related stress that, we suspect, not too many enjoyed with the exception of the commodity ‘bulls’. Even then the quarter included one of the worst one-day declines for the CRB Index which served, we imagine, to at least weaken the knees of the $150 billion now invested in commodity index funds.

We are going to start things off today by returning to the concept of ‘time’.

When gold prices broke to new all-time highs in early January it marked the end of a 28-year correction following the metals price peak in early 1980. Some 18 years after the Nikkei’s top at the start of 1990 the Japanese equity market is trading at roughly 1/3rd of its peak while 8 years after the Nasdaq’s top most tech, telecom, and internet-related stocks view the prior peaks as a mere distant dream. Yet… our point is not whether the Nikkei or Nasdaq will ever make new highs- because they will- but rather that the initial correction for gold from 1980 into 1982, the Nikkei from 1990 into 1992, and the Nasdaq from 2000 into 2002 lasted about two years.

At top right we show a chart of the stock price of Cisco (CSCO) from 1999 into early 2004. CSCO peaked in March of 2000 before ultimately reaching a bottom at the start of the fourth quarter in 2002. The correction or bear market in this example lasted roughly 2 1/2 years and while in a broad sense it continues to this day the stock price did manage a triple from the 2002 lows into early 2004.

Below CSCO we feature a comparison between the sum of two U.S. home builders- DR Horton (DHI) and Hovnanian (HOV)- along with the Los Angeles Housing Index futures. Real estate futures contracts were introduced in 2006 to allow ‘investors’ to hedge against the decline in real estate prices.

The first point would then be that from 2005 through 2007 the bear market in the home builders lasted as long as the initial correction for CSCO. In terms of ‘time’ the negative trend for the builders rivaled that of the gold, the Nikkei, and ‘tech’. The second point would be that the home builders lead the real estate market so the better they do the greater the odds that U.S. home prices will firm up later this year. If there was a bright spot through the first quarter it might well have been the improvement in the stock prices of DHI and HOV.

Below is a comparison between Anheuser Busch (BUD) and copper producer Phelps Dodge (PD). The chart of PD runs into early 2007 at which time it was purchased by FreePort-McMoRan (FCX).

We suspect at times that the markets are much simpler than we give them credit for. As the world’s population grows and the money supply expands prices tend to rise. Certain sectors tend to do well when other sectors are weaker and then the trends reverse to push the prices of the laggards upwards as the over-bought favorites cool off. Bubbles form, build, and then burst turning long-term investors into nervous tape watchers and so it goes.

The chart at right argues that from 2002 through into 2007 the stock price of PD was simply returning to ‘trend’. To accomplish this amazing feat a number of things had to happen including a return to Asian growth, a relentless decline in the value of the U.S. dollar, and a steady recovery most especially in non-U.S. equity markets.

Our point, we suppose, is that back in 2002- 03 when we were arguing in favor of the commodity cyclicals we were regularly bombarded by fundamental research that argued quite convincingly that this sector would never recover. Now we are deluged with reports suggesting that the rising trend is secular or structural and will therefore never end. What we do know is that when it does end stocks like BUD should finally be ready to take a turn moving back on ‘trend’.

One of our views is that the metals trend is related to the Asian growth trend. Many likely believe that Asian or Chinese economic growth is a one-way street but we have seen the Asian, Latin, or emerging markets ‘miracles’ come and go too many times to view this as anything other than a cyclical event. The peak- bottom right- for PD back in 1997 took place at the highs for the Hang Seng Index so we suspect that there is some validity in comparing the stock price of something like Rio Tinto (RTP) with China’s Shanghai SE Composite Index (below).