Only a short Correction.
posted on Aug 18, 2008 01:56PM
Camino Rojo Mexico : In-situ - 4.0 million ounces gold; 68.32 million ounces of silver.
This Is a Correction, Not the End of the Commodity Bull Market Part I
Today's comment is by Eric Roseman, Investment Director and editor of Commodity Trend Alert.
Dear A-Letter Reader,
Every single day, the world's population uses more oil than the planet can possibly produce. This means the peak oil theory is still alive and well.
That's why this ongoing correction in crude oil prices is creating the best entry point for new investors in more than three years. Right now, most companies trade at or near their 52-week lows and pay some fat dividends higher than both the broader market and Treasury bonds.
Poor Correlation on the Way Up
The majority of energy stocks have struggled this year as oil prices raced to a record high of US $147 a barrel. Stocks simply couldn't rally as the bear market in global stocks applied downward pressure on the entire complex.
Oil futures tell a completely different story. While major U.S. and international oil companies rose only 3.5% from January 1 to July 11, oil futures rose an astounding 63%. Over the same period, the S&P 500 Index tanked more than 10%.
Admittedly, the recent peak in oil prices was extreme and indicated a short-term "bubble."
Commodities have been the prime beneficiaries of the global institutional boom. Industry players have already created a flurry of exchange traded funds to take advantage of this commodity bull market.
Also, hedge funds have turned to commodities to gain exposure to one of the few remaining profitable segments of the market. In fact, hedge funds' "big trade" over the last 12 months has been riding the wave in commodities, including oil and shorting or betting against financial stocks. That trade violently reversed last month.
Another dose of bad news for commodities lately is the dollar's rapid recovery. With the dollar in a freefall over the last few years investors had scrambled to hedge their portfolios against rising inflation and a decaying currency. But that trend is over, at least for now.
Bear Market or Correction?
From its high in early July the benchmark Reuters-CRB Index has declined 19% while crude oil prices have tanked 23%. Other commodities have declined even more.
Oil stocks, as measured by the Spiders XLE Index (XLE) are down 22.5% from their highs while the Dow Jones Oil Equipment and Services Index is off 21% from its best level.
Commodities, including oil, are in a correction. But don't be mistaken: We're definitely not at the cusp of a bear market for oil or commodities.
The market is right to discount a slowing global economy this year as credit problems and stagflation spread to overseas economies. It's wrong to assume that the bull market in oil and most other commodities is over. Short-term cash rates still below the rate of inflation and global money-supply is still growing in excess of almost 20% year over year, according to Grant's Interest Rate Observer.
In its fight to control deflation in housing and bank credit, the Federal Reserve will continue to pump the financial system with more money. Massive government bailouts don't come cheap. Over time, inflation, which is now moderating, will make a comeback.
And what about the dollar?
Just because the dollar is soaring doesn't imply that trend will last, either. The Fed is not going to hike lending rates for at least another 12 months and foreign central banks won't start cutting rates until inflation eases.
The dollar may be in a bear market rally now, but the buck simply doesn't have interest rate support from the Fed. Plus, the economy remains mired in a severe slowdown or recession across several important industries.
At the very least I expect the rate of dollar appreciation to slow over the next few weeks as profit-taking arrives and more signs of credit contraction plague the domestic economy. If anything, I'm expecting the Fed to cut, not raise, interest rates in 2009. That won't be bullish for the dollar.
Tune in tomorrow, and I'll tell you how to take advantage of this dollar strength and short-term oil correction.
ERIC ROSEMAN, Investment Director