Macro Wrap – Fed-Induced Rally? What About Commodities

by Enis April 1, 2013 7:41 am • Commentary

With the SPX index making a new closing high, and only 7 points from its all-time intraday high of 1576, many are pointing to the Fed and the idea of a “rigged” market.  But there has been a major disconnect in the past year between stocks and commodities, both of which should normally benefit from easy money globally.  It’s a piece of evidence against those who attribute all the stock market gains to central bankers.

Rather, the changed psychology of market participants is probably a more important reason.  And psychology is fickle.  In short, I don’t subscribe to the view that there is a permanent “Bernanke put” that stops all stock market declines, since that same policy has not prevented copper, or gold, or silver from moving lower.  The real impact of central bankers is psychological, which should be a warning to those investing with one catalyst in mind – more easy money.

Here’s a chart of the SPX (orange) vs. DBC (black), the Commodity Index Tracking Fund:

SPX vs. DBC, 3 year daily, Courtesy of Bloomberg
SPX vs. DBC, 3 year daily, Courtesy of Bloomberg

Commodities as a group topped out in spring 2011, and have actually declined in 2013 even as stocks make new highs.  The DBC index does not include some industrial commodities like copper or iron ore, which have been even weaker.  Copper is down another 1.5% this morning, and is trading near the low end of its 3 year range.

Part of this weakness can be attributed to dollar strength as a whole.  But a more important driver, as usual in markets, is oversupply relative to current demand.  If industrial production globally was going gangbusters, you would see demand quickly outpace supply in most commodity markets, driving prices hire until those two balanced out.  Instead, supply is outpacing demand, and prices have been moving lower for the past 6 months as a result.

Simplistic arguments are appealing because they’re simple.  Financial markets are complex though.  Commodity weakness is sending a signal that is in opposition to general consensus, and does not conform to the tidy view of a central banker-led rally.  For those expecting a central banker-led rescue on the next selloff, take note.