Up and Down Wall Street
| TUESDAY, MAY 18, 2010Commodities -- the Crash You Didn't Hear
The slide in everything from copper to crude reflects growing deflation risks.
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WITH ALL THE ATTENTION FOCUSED on the so-called flash crash of May 6, there's been a nearly silent crash in commodities.
From copper to crude oil to corn, prices have been tumbling for the better part of a month. The Thomson Reuters/Jefferies CRB index hit a seven-month low, dropping 2% Monday, which brought its loss to nearly 10% in the past month.
The commodities decline has been overshadowed by news of the European debt crisis, the oil-spill disaster in the Gulf of Mexico and the flash crash which caused a thousand points of fright in the Dow Jones Industrials a couple of weeks ago. But the slide in commodities has been picking up speed in the last week and, anomalously, has come against the backdrop of soaring gold, which hit a record price in dollars of $1,249 an ounce last week.
The proximate factor driving down commodities has been the rise in the dollar. "A strong dollar, all things being equal, equates to a weak commodity market. It has always been thus; it shall always be thus," writes Dennis Gartman, editor of the Gartman Letter, which is the first read in the morning for traders and investors around the globe.
In particular, Dr. Copper is looking sickly. "The metal with a PhD in economics," so named for its sensitivity to the global economy, is down more than 20% in the past month. Clusterstock.com headlined its chart of the day "Now This Is a Deflationary Collapse," which seemed no exaggeration as copper plunged 6.4% Monday.
Copper's slide joined other disquieting signs of slower global growth. Monday, the Shanghai Composite Index plunged over 5%, putting China's stock market into bear territory at more than 20% below its peak last year.
Meantime, the Empire State Manufacturing Index fell much more sharply than expected, to 19.1 in May from 31.9 in April. That indicates a sharp deceleration but continued positive growth. Weak features of the survey were new orders and shipments, according to the report from the Federal Reserve Bank of New York.
Crude oil also fell sharply Monday, by $1.53, or 2.1%, to settle at $70.08 a barrel for the active June futures contract. That's a five-month low and down sharply from the mid-$80 range in early April and counter to the usual seasonal pattern of peaking out with the beginning of the summer driving season that kicks off with Memorial Day.
Gartman also notes that grains and soybeans with "huge crops" being planted with heavy rains in the Midwest. "Rain makes grain…one of the oldest and best trading 'rules' we know of," he says.
But the plunge in commodities while gold is rallying indicates the decline is even more severe when measured in terms of gold -- what its fans call real money (as opposed to paper fiat currency.)
For instance, Gartman points out just a few weeks ago it took 13.85 barrels of crude oil to buy an ounce of gold. Now it cost 17.5 barrels of crude to buy that same ounce of gold. "In other words, crude oil has fallen just a bit more than 25% in value in gold terms in only three weeks…a not immaterial sum in anyone's estimation."
Traditionally, rising gold prices have pointed to higher commodity prices. Similarly, rising gold also has been associated to an increase in bond yields as well as a falling dollar.
In the last month, those historic relationships have been turned on their ear. The yield on the Treasury benchmark 10-year note has fallen more than a half percentage point, to 3.48% Monday, in tandem with commodities, even as gold broke out above $1,100 to $1,225 Monday. Meantime, the U.S. Dollar Index, which measures the greenback against a basket of six major currencies, hit a 13-month high Monday after a gain of 7% in the past month.
Clearly, the Dollar Index's strength is the mirror image of the collapse of the euro as the result of the European debt crisis. That's driven the world's capital in the safe havens of the dollar, and by extension, Treasury securities, as well as gold. And the dollar strength translates into commodity weakness.
That simplistic explanation leaves out the broader subtext of the debt deflation resulting from the austerity measures being enacted in Europe along with the impact of the multiple monetary tightening measures in China. In the U.S., meanwhile, the maximum effect from last year's fiscal and monetary stimuli may have been felt; tax hikes loom for next year and the Fed continues to mull how to shrink its balance sheet.
In the context of the deflationary impulses now being felt in the world's economy, the flight from commodities such as copper makes sense -- even as investors seek the haven of gold.
Randall Forsyth is attending a conference. His next column will be Thursday, May 20th.
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