View from Crystal Bay: Nobody Saw this Coming
Investors aren’t limited to only investing in the S&P 500 and the Dow Jones Industrial Average. Every week we share the market trends we are following. We are interested in whether the trends in those markets are continuing or if they are experiencing a temporary or complete reversal.
When we identify trends, we are only concerned about the price data and what it says about any given market. We don’t need to know why a trend has formed to invest, but our human nature wants to understand what is driving them. Each week we try to offer some perspective on what we think the most substantial moves are and what critical drivers are behind them. Here we look at what is going in our globally diversified, non-correlated Crystal Bay Ubitrend strategy.
Last week’s continuing trends:
- Lumber
- Copper
- Nasdaq Index
- Coffee
- Orange Juice
Last week’s reversing trends:
- Winter Wheat
- European Maize
- Natural Gas
- Japanese Government Bonds
- Oats
What we are taking note of:
The beauty of financial markets lies in their unpredictability. The major themes of expansion and contraction, fear and greed, caution and optimism keep repeating themselves but never in the same way or with the same timing. Human behavior keeps surprising us with novel variations on old themes.
When the COVID pandemic hit the US and states started shutting down, it quickly became obvious who would be the losers: any travel-related industries (airlines, cruise lines, hotels, rental car companies), in-person experiences (dine-in restaurants, movie theaters), and economically-sensitive commodities (oil and gas). Some winners also popped up quickly: online retailers, teleconferencing, food delivery companies. But the market also had some surprises up its sleeves.
Since the bottom in April, we have seen a recovery in Oil prices that has encouraged Natural Gas companies to ramp up their NGL production. Excess Natural Gas that is the byproduct of that decision is now flooding the market. Natural Gas is difficult to transport and cannot be easily exported out of the US. It is also hard to store. Domestic demand is still weak due to the economic recession. It is no wonder that prices are collapsing; nobody knows how much further they can fall. Trend followers, however, do not need to summon unusual powers of prophecy to trade Natural Gas; their algorithms will ride the trend until there is evidence of bottoming out.
Lumber is usually considered an economically sensitive commodity. When the economy expands, housing construction takes off and pushes Lumber prices up. When the economy goes into recession, construction contracts and Lumber prices drop. The cycle played itself out perfectly since 2000, and there was no reason to believe that the year 2020 would be any different. Lumber and hardware companies reacted to the news of shutdowns and mass layoffs with gloom as they prepared themselves for a collapse in demand. Lumber prices plunged by 40% in March.
Little did anyone know that consumers would behave very differently in this recession from the previous ones. Stuck at home, Americans took a look at their decks, gardens, and backyards and decided to embark on an unprecedented wave of home improvement projects. Hardware stores saw their best spring season ever, lumber and plywood were flying off the shelves, and buyers cleaned out the inventory. Sawmills, which were cutting hours and laying off workers in March, were running at full capacity by June and couldn’t keep up with demand.
The scramble for Lumber drove prices up to almost double their March levels. The turnaround was fast and furious, and it took analysts and investors by surprise. Nobody saw this coming.
How are we heading into next week?
The long-term outlook for Lumber prices will depend on a completely new set of variables. Rather than being driven by the overall economic conditions, it will respond to an emerging trend of the re-suburbanization of America. Middle classes are starting to flee the cities to escape both the pandemic and the breakdown in law and order. There isn’t enough housing inventory in the suburbs and exurbs to absorb all of this new demand; it will have to be built from scratch.
US housing starts never fully recovered from the housing market collapse of 2008, and they have not kept up with population growth. All of the excess housing from the early 2000s is gone: it has either been occupied by now or it has been torn down. It would be ironic if one of the side effects of COVID were to be a renaissance of US housebuilding.
The Crystal Bay Ubitrend has a long position in Lumber and will continue to hold it as long as the current trends in Lumber markets continue.
