Since I began my career in the late 1990s, there has been persistent chatter from goldbugs and others predicting that a return to sharp inflation is always just around the corner. In the years after the dot com bust, inflation picked up as the Federal Reserve cut interest rates to stimulate the economy. However, following the 2008 Global Financial Crisis, and despite low interest rates, we have seen modest inflation and generally weak commodity prices. Fast forward to 2020 and the coronavirus pandemic ushered in simultaneous supply and demand shocks causing severe dislocations across economies and capital markets. Global Central Banks have dramatically increased their balance sheets thereby injecting massive liquidity into economic systems. Between unprecedented stimulus and disrupted supply chains, is the next major inflation cycle upon us?
Bloomberg Commodity Index – 20 Year Weekly Chart (BCOM)
The initial shock of the pandemic saw investors scramble for U.S. Dollars, which increased the price of dollars against other currencies. Following liquidity injections by the Federal Reserve, the U.S. Dollar traded sideways and then began to decline in May. Since mid-May, the U.S. Dollar has lost 7% of its value which impacts commodities as most are denominated in U.S. Dollars. A falling U.S. Dollar generally means rising commodity prices, and vice versa.
US Dollar Index – 6-month Daily Chart (DX)
Weakness in the U.S. Dollar has helped to boost the price of commodities across the spectrum, including Gold, Copper and agricultural commodities like Corn. An extreme example is Lumber, whose prices have more than doubled since mid-June as homeowners perhaps find previously sidelined remodeling projects attractive during a pandemic. At the same time, suppliers had halted production.
Lumber – 6-month Daily Chart (LB)
The long term downtrends in commodity prices have largely begun to reverse over the preceding months in response to monetary policy and supply shocks. Whether these trends continue and we enter into a new bull market cycle in commodites remains to be seen. Commodity prices can trend over multiyear periods as supply and demand forces come into balance. Given that most investors have limited exposure to commodities in their portfolios, many could be left behind with less purchasing power in their pockets.
Bloomberg Commodity Index – 6-month Daily Chart (BCOM)
