The Commodity Decline

BarroMetrics Views:  The Commodity Decline

Roboyak asked:

“The massive de-leveraging continues. The US dollar carry trade is being unwound at an accelerating rate. Oil bounced off 70.825 on Friday. Do you think the momentum will resume next week, or is this just investors closing positions to be safe over the weekend?

It looks like the next stop for oil could possibly be the $67.50 range if it breaks below $69.995.”

The dollar index looks like it is gunning for 90.

Is the new carry trade borrowing euro to buy gold? I am assuming a double dip would take down commodities with it also right?”

* With the acceptance below 1.2500, my longer term target for the EURUSD is  1187.50. Last night’s price action suggests a bounce to 1.2470 to 1.2507. Let’s see what the bounce looks like: I’ll be looking for the price structure to confirm that the EURUSD is on track for 1187.50.

* I have a slightly lower target for Crude if we see acceptance below 70.00. We  should see a rally to 73.30 to 74.00 (basis nearest futures month) even if another down leg is to ensue.

* The issue of what will happen to commodities in the event of the deflation is a matter of when it occurs in the business cycle:

The next big problem that will hit the markets will be inflation. China is a looking glass on what the US can expect. The Trillion Dollar deficit is, at the moment, sitting in St Louis Fed Reserve. When those funds hit Main Street, you will see inflation numbers rise. The FED will have to act in a timely manner to prevent inflation without causing a recession/deflation. This balancing act will be difficult at the best of times and this time you have an added problem: China will be in no position to assist the US.

Unlike the US, Chinese Banks toe the line. When they were told to lend, that’s what they did. As a result, anecdotal evidence suggests that the actual inflation rate is at least 7% (official rate about 2.8%). Whatever the rate may be, China is taking measures to reel in inflation. China may be able to do this without too much of a dislocation – they had a reasonably stable economy before sub-prime. The US on the other hand, had an economy built on debt. A false step and you could easily see deflation. In this scenario, Gold and Commodities would fall.

On the other hand, should the FED fail to take timely action and inflation proves to be a problem, I expect to see Gold and Commodities rally. In the short term, Gold should continue its ascent. I expect a pullback to the 1210 to 1187 range before an another move up.

* The US$ hit my minimum target, 86.40, on Friday May 14. The optimum target, if this is a bear market rally, is 87.75 to 89.70. Acceptance above 92.50 would suggest a new US$ bull market is underway.

I have no idea if the new carry trade will be buy Gold with EURO borrowings.

4 thoughts on “The Commodity Decline”

  1. Ray,

    I really appreciate your commentary. Thanks for being so responsive. About half way through your book. Great read!

    Do you ever teach your class in the states, i.e. San Francisco?

    Thanks again!


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