Recent weakness across a wide array of commodities has led to a cry among many analysts that the bull market has come to an end. Indeed, much technical damage has been done to the individual charts and it is possible that a major high in many markets has been made. Still, the fact that there is such a growing consensus that the bubble has “burst” makes me leery. The markets rarely accommodate the majority view that quickly. Furthermore, while there are potential macro economic problems that seem to be developing, I believe that on a fundamental basis the call that this bull market is dead is premature.
First of all much has been made of the idea that commodity markets are in a bubble. I disagree. True, excessive liquidity has given a boost, but most markets have seen big bull runs over the last year due to strong fundamentals. Grains are a perfect example. Corn has not gone higher simply because cash rich speculators have driven up the price. Rather, there is a severe shortage of the grain due to a global explosion in demand. The ending stocks to usage ratio (the amount left over at the end of the crop year divided by the total amount used) is at the lowest level ever recorded. This is actually after a decent harvest last season. And even with a good yield this year, corn supplies look to be just as tight at this time next year. This is the case in a slew of commodity markets. Demand is outstripping supply.
Case in point, the recent silver rally into early May was not just “irrational exuberance”. Physical demand has been strong and there was a shortage of the metal going into expiration. Shorts (read Morgan Stanley) could not come up with enough silver to make delivery and were forced to cover. This was reflected by the inversion in the spreads. May futures actually traded at a premium to December. Just because a technical washout has occurred does not a market top make. In fact, most exchange traded futures have seen a precipitous decline in open interest over the last month. This technically sets the stage for another surge higher if traders decide to reinstate long positions.
It is true that recent US economic data is weakening considerably and a double dip recession here is certainly possible. However, so much of the bull market in commodities is globally based. The US is no longer the main engine of international economic growth. The world metric is gagged in US dollars. But consider that if currency valuations were not so distorted, a good case could be made that China is now the world’s largest economy (and growing at 9%+ a year). Also, most commodities are priced in dollars. If the US takes an economic stumble, the dollar is also quite likely to take a beating. That would inversely help support commodity prices.
Whether a significant high has been made remains to be seen. One indicator to look at for clues is the weekly Continuous Commodity Index.
