Fortune, which has a great deal of power in other matters but especially in war, can bring about great changes in a situation through very slight forces.

Julius Caesar

Which is pretty much where we are currently with the markets, and particularly the commodities markets. Before I get onto the commodity story however, this week’s COT number.

This week the COT number remains negative, and gets more negative at [-21%]. The reason that I would at least have this in the back of my mind is that for all intents and purposes the all clear has been sounded, viz, the Federal Reserve and possibly even China. But has it really?

The market is trading at new highs and all seems well with the idea that the Federal Reserve is going to continue to keep rates low. The idea of tapering asset purchases seems to have lost its fear element.

China has for the moment and last two weeks really disappeared from the collectives fear radar. If there is a real problem in China, it will at some point appear and make itself felt.

Why haven’t the spreads on the yield curve come back in? If the Federal Reserve was going to hold the short end until 2014 and possibly beyond, then rates across the curve should have come in far more.

Yes they have compressed. But nowhere near where you would expect them to with a true all clear. In this case I think the question mark is China and just how bad are things really? What, if they are really worse than thought, will be the effect on US markets?

Therefore the COT number is reflecting more macro concerns than domestic concerns, although the macro are not front and centre.


The technical picture that could support the COT number is that the price is quite significantly higher than the VWAP [or any calculated moving average] and could reverse back towards those values.

The other possibility with regard to corrections is a correction through time, where price just sits waiting for various lagging indicators to catch up.

With the SPY index then, I’m not a fan of buying high prices [nominal highs] even though on forward earnings, the price, is not that expensive. By all accounts earnings estimates are not the train wreck that we have been led to believe, however, I remain a touch sceptical, I would rather buy a pull-back, or better still near the end of a prolonged down trend.

Which again suggests commodities. If the world is committed to loose money, and it is, then even in a slowdown, which we have, or tepid recovery, take your pick, there is a further factor that argues towards commodities.

The commodity markets are much smaller in total dollar terms than stocks and bonds. Large investor buying, on value, or any metric that might cause a buy order, technical, etc, can end a bear market in commodities even in the face of a slowdown. If you add to that restricted or reduced supply from producers, this effect can become quite pronounced. I believe that this is in the early stages of happening.

Therefore gradually building commodity positions makes sense in the areas that have been beaten down badly, coffee is a good example. I have been trying to build a position with limit orders, and have great difficulty in getting fills.

In addition, producers are being reported as burning their crop. It does not mean coffee, or any commodity has reached a bottom, but, if we proceed on the basis that inflation is higher than reported, then investing cash has to be the primary goal. Sitting in cash and/or fixed income is going to destroy wealth.

Buying a stock market at new highs carries the risk of valuations being excessive based on forward earnings and any corrections that might ensue. Sure buy a correction, but to buy the high is asking for difficult position management.

Commodities however offer lower relative valuations and nicely defined upside targets at which to lighten positions in taking profits.

This week’s trade will again be a market neutral trade. The markets are a buy, they are in bull mode, but a market neutral position gives up only a very small upside profit to create, gives you the upside, but also gives you profit to the downside if for any reason things suddenly turn to custard.

Until next week
jog on