The Big Picture

« CPI Overstates Inflation? Puh-Leeze! | Main | Yield Curve Inversion »

Pick the Bubble: S&P500 or CRB?

Saturday, May 27, 2006 | 08:08 AM

in Commodities | Investing | Markets | Psychology/Sentiment | Technical Analysis

I've previously highlighted some of the excellent technical work John Roque does. In this morning's Up & Down Wall Street column in Barron's, Mike Santoli (filling in for the still MIA Alan Abelson) points to some of Roques's recent observations:

It has become common to describe the soaring trajectories of commodities such as silver, gold, copper and other metals as "parabolic," a way of damning the moves and the buyers behind them with 10th-grade geometry. (For a reminder of what a parabolic chart looks like, a fly ball follows a parabolic path; whether a home run or an out, it always returns to earth.)

John Roque, technical market analyst at Natexis Bleichroeder, has been correctly enthusiastic about commodity and basic-materials stocks for years. These days, he is being forced to confront the bubble talk more frequently with clients.

Last week he was asking clients a question: Since October 2002, what is up more, the S&P 500 or the Reuters/Jefferies CRB commodity index? The clients must think to themselves, "OK, he's been bullish on commodities, he's a technician and technicians like whatever has been working." So they answer "the CRB," every one of them so far.

And they're wrong.

Since Oct. 10, 2002, the bear-market low in stocks, the S&P 500 was up 58% through Wednesday after an 18-month bear market, and the CRB was up 53%, after a 20-year bear market. This return differential comes even after the keepers of the CRB last year reweighted the index in a way that has helped its performance. (emphasis added)

That's an utterly fascinating observation. And as we have mentioned previously, secular commodity rallys tend to be much longer lasting then the usual cyclical equity 4 year run; If we use history as a guide, then the commodity bull can last 10 to 20 years.

So is this a bubble? As Santoli observes, "when bubble talk begins to lather up around a particular asset market, it usually means a few things. First, that particular asset class is up a lot. Next, the folks who are quickest to apply the bubble label haven't owned any, or enough, of it. Finally, there's usually at least a shadow of truth to it."

I take it a step further, and hasten to point out that the track record of the bubble callers is pretty dismal. Having missed the greatest bubble in the planet's history (the 1996-2000 tech/telecom/internet bubble), they now see bubbles everywhere else:

Can this be a commodity bubble if commodities as a class have trailed an unexceptional stock market for 3½ years?

Roque also points out that the basic-materials sector is now a mere 3% of the S&P 500. And even wrapping together the whole materials, energy and industrial sectors, these commodity-related groups make up less than 25% of the index, versus 34% for technology at the height of the tech bubble.

Without a doubt, several individual commodities, including copper, became wildly overheated on a short-term basis. As in all real bull markets, the corrections can and will be gut-shredding. Gold could easily fall well below $600 per ounce -- from $654 now and more than $700 at its recent -- without compromising its upward trend.

Actually, what the bubble watchers are seeing is the effect of the global, almost coordinated massive liquidity injection. Cheap money, half century low rastes, printing presses humming overtime. So of course hard goods -- materials and commodities -- become more valuable as the dollar loses more purchasing power. That loss of purchasing pwoer is also know as -- say it with me -- INFLATION.

Smart analysis. Thanks, Mike, for pointing it out.

Source:
Farewell to the 'Nineties
MICHAEL SANTOLI
UP AND DOWN WALL STREET
Barron's, MONDAY, MAY 29, 2006
http://online.barrons.com/article/SB114868528617064758.html