The Futures / Inter Market Report

Trading the World’s Markets                            

June 30, 2007

                                            
Matthew Caruso, CMT                                  
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A Long Term View & Outlook of the Commodity Markets

            This week we’ll be taking a long-term look at the commodity markets. Typically a long-term view for commodity traders is a couple of weeks in time but we will look back much further, 5 years. The year was 2002, Crude Oil was less than $20/barrel, Gold was less than $300/ounce, Copper was less than $0.75/pound, and Wheat was less than $2.75/bushel. How things have changed. Crude Oil is now trading above $70/barrel, Gold above $650/ounce, Copper above $3.40/pound and wheat at about $6.00/bushel. Prices have just about tripled in most commodities over the past 5-6 years regardless whether they are metals, energy, or grains. 

            Commodities have entered a bull market not seen for decades and have outperformed virtually every asset class. However, unlike stocks, commodities are consumed and higher market prices also mean higher prices for consumers. Therefore, commodities cannot realistically continue climbing indefinitely at a pace seen in recent years. Crude Oil tripling in 5 years would mean $210/barrel Oil by 2012, an unlikely event. Surely at such elevated prices new supply will be found through increased exploration, or substitute materials will be used. This all leads to the conclusion that most traders don’t want to hear; the bull market will have to end sometime, but when will it be? 

            A quick way to study the general price level for the various commodities is by looking at the chart of the Reuters CRB Index which is composed of Energy, Grain, Industrial, Meats, Softs, and Precious Metal futures. The index is primarily dominated by the Energy, Grain, Industrial, and Precious Metal commodities. A monthly chart of this index can be seen in Figure 1. This chart clearly displays the uptrend in commodities since 2002 and an uptrend line drawn under prices has been a very good indication of support for prices. Prices have been consolidating since the 2006 peak and are once again approaching the up trendline. Until the trend line is penetrated, price will continue higher. Before trying to determine the future direction of prices let’s take a look at the relationship between the CRB index and the various commodities.

            Figure 2 shows the CRB Index along with Gold and Copper prices. The blue vertical lines market tops in the CRB and the Red lines mark bottoms. A similar chart is shown in Figure 3, however this chart has Crude Oil and Soybean prices plotted under the CRB. The commodity markets top and bottom at roughly the same time, and the CRB is a good representation of the commodity markets as a whole. Therefore we need to watch for any signs of strength or weakness in the CRB because this will largely be felt through all of the commodity markets. 

            The CRB Index has been consolidating for about a year as seen in figure 4 and is approaching an important inflection point; prices will either climb to new highs, or fall much lower. Most commodities are also experiencing consolidations such as Gold, Crude Oil, and Copper, all of which are off their 2006 highs. Therefore we are either in a consolidation in the commodity markets that will be a launching pad for commodities to new much higher highs, or we are forming a major top. At this point in time the prevailing trend is up and the bull market that started in 2002 for commodities has not yet shown any signs of a reversal in trend. Therefore prices will continue higher until a penetration of the up trendline occurs. Bull markets usually continue far past the expectations of many market observers. Many market commentators though that the U.S. economy could not avoid a recession with Crude Oil climbing above $70/barrel, yet stock prices have continued higher and the economy has continued to grow. Until the market gives signs of a trend change, expect price to continue higher. The best way to spot such a trend change would be to follow the CRB Index and how it is reacting to its strongly supporting up trendline.

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