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Why commodities are still the best major investment class
August 21, 2006 (AME Info FN)
It is almost two years since Jim Rogers published his book 'Hot Commodities' and anybody who took his investment advice then will be showing a strong gain. Yet this major asset class could still have a decade to run, while real estate and equities look a busted flush.
One of this year's best selling investment books picks up on Jim Rogers' theme. Mark Shipman's 'The Next Big Investment Boom: learn the secrets of investing from a master and how to profit from commodities' is much lighter on analysis but the conclusions are pretty unchanged.
AntiSpin: Rogers' book says a whole lot more than this: "China and India are rising inexorably as consumers of commodities on a scale not seen before in the history of man. Hence demand is rising. Meantime, the supply of commodities from oil to metals and foodstuffs is limited by the amount of time taken to create new production. Hence, tighter supply. Rising demand plus tighter supply equals rising prices."
When we interviewed him back in May this year, Jim made the salient point that commodities booms are often a kind of hangover from an equities boom. The reason is that during stock market booms, such as occurred between 1983 and 2000, global capital gets sucked into developing those companies that produce the best equity returns relatively quickly and easy. There's nothing fast or easy about growing a commodity business. Each company relies on a complex and efficient ecosystem to make a profit. For example, as Americans are now learning, you can have all the oil in the world, but without the right refineries for the kind of oil that's available, gasoline prices can go up quite a bit. Jim pointed out that no new lead smelters have been built in the US in 30 years. During go-go stock markets, little capital is invested in commodity related companies.
Most importantly Jim pointed out that commodity booms tend to happen when the global economy is not expanding. Yes, demand from China and India and Eastern Europe are putting pressure on suppliers. But that could slow to a fraction of what it is today and we'd still be in a commodity bull market.
This is an important point that's missed in this AME story. Major bull markets in commodities occurred during the stagflationary late 1970s right up until 1983 when the bull market in stocks began, and even in the middle of The Great Depression. That seems counter-intuitive, especially when writers, such as this one, are focused on "demand" as the root driver of commodities bull markets.
Bringing new commodity "supply" online is complex, time consuming and expensive, with many interdependencies among players in the market. But guess what. Taking supply offline is relatively easy, and producers, once they catch a whiff of falling "demand," cut supply well ahead of it, to maintain prices and profits. This was true even in the 1930s when information on future demand was dear. Imagine how simple this will be to accomplish today when future "demand" is broadcast via a highly transparent futures market.
Chart 1
Commodities demand will decline in the next recession, but supply will decline faster. Then global central banks will print away, to fight the recession, and nominal commodity prices will go up even more.
This is how commodies bull markets turn into commodities bubbles. See Chart 1, platinum 1978 to 1980.
Remember, The Next Bubble will always be in an asset class that was already rising when the last bubble was collapsing: stocks in 1995, real estate in 2000...
More on this theme later. (metalman, we are listening.)
August 21, 2006 (AME Info FN)
It is almost two years since Jim Rogers published his book 'Hot Commodities' and anybody who took his investment advice then will be showing a strong gain. Yet this major asset class could still have a decade to run, while real estate and equities look a busted flush.
One of this year's best selling investment books picks up on Jim Rogers' theme. Mark Shipman's 'The Next Big Investment Boom: learn the secrets of investing from a master and how to profit from commodities' is much lighter on analysis but the conclusions are pretty unchanged.
AntiSpin: Rogers' book says a whole lot more than this: "China and India are rising inexorably as consumers of commodities on a scale not seen before in the history of man. Hence demand is rising. Meantime, the supply of commodities from oil to metals and foodstuffs is limited by the amount of time taken to create new production. Hence, tighter supply. Rising demand plus tighter supply equals rising prices."
When we interviewed him back in May this year, Jim made the salient point that commodities booms are often a kind of hangover from an equities boom. The reason is that during stock market booms, such as occurred between 1983 and 2000, global capital gets sucked into developing those companies that produce the best equity returns relatively quickly and easy. There's nothing fast or easy about growing a commodity business. Each company relies on a complex and efficient ecosystem to make a profit. For example, as Americans are now learning, you can have all the oil in the world, but without the right refineries for the kind of oil that's available, gasoline prices can go up quite a bit. Jim pointed out that no new lead smelters have been built in the US in 30 years. During go-go stock markets, little capital is invested in commodity related companies.
Most importantly Jim pointed out that commodity booms tend to happen when the global economy is not expanding. Yes, demand from China and India and Eastern Europe are putting pressure on suppliers. But that could slow to a fraction of what it is today and we'd still be in a commodity bull market.
This is an important point that's missed in this AME story. Major bull markets in commodities occurred during the stagflationary late 1970s right up until 1983 when the bull market in stocks began, and even in the middle of The Great Depression. That seems counter-intuitive, especially when writers, such as this one, are focused on "demand" as the root driver of commodities bull markets.
Bringing new commodity "supply" online is complex, time consuming and expensive, with many interdependencies among players in the market. But guess what. Taking supply offline is relatively easy, and producers, once they catch a whiff of falling "demand," cut supply well ahead of it, to maintain prices and profits. This was true even in the 1930s when information on future demand was dear. Imagine how simple this will be to accomplish today when future "demand" is broadcast via a highly transparent futures market.
Chart 1
This is how commodies bull markets turn into commodities bubbles. See Chart 1, platinum 1978 to 1980.
Remember, The Next Bubble will always be in an asset class that was already rising when the last bubble was collapsing: stocks in 1995, real estate in 2000...
More on this theme later. (metalman, we are listening.)
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