It’s fizzy.
It’s effervescent.
It’s the stock market, and we may be on the cusp of a new bubble.
In sharp contrast to the 12-year lows on March 9, the stock market has surged 51 percent. Traders and investors have been downright euphoric.
Anemic portfolios are re-inflating. Trading fees are up. The appetite for debt issues seemingly has returned. For the millions who watched haplessly as their nest eggs shriveled, there’s been reason for cautious celebration.
Could He Be Right Again?
According to several prominent market figures, this growing climate of optimism and expansion may be short-lived.
The best known among these bearers of bad tidings is New York University Prof. Nouriel Roubini. He is one of the few outspoken economists who accurately predicted the financial crisis several months before anyone saw it coming. His exactitude elevated him to the status of a modern-day market Nostradamus.
During the past few weeks, Roubini has been sounding shrill notes of vigilance about the potential for a major decline even as stocks have climbed to their highest levels in more than a year. For the perpetually dour Roubini, the markets have climbed too far too fast. In his oracle, he sees a significant correction.
Roubini is not the only wet blanket at the party.
While attending an economic conference in Istanbul, Turkey, billionaire investor and currency speculator George Soros echoed Roubini’s pessimistic tone. Soros said that the basically “bankrupt” U.S. banking system will hamper a sustainable recovery. He hinted he is positioning himself for the correction.
In concert with the recent stock market surge, commodity prices similarly have been on the rise. The burgeoning demand for raw materials has corresponded to the decline in the value of the dollar as investors have started using commodity acquisitions as a means to build a hedge into their portfolios. The dollar has weakened 9.1 percent against the Euro since March.
Behind the Risk
Even as stockpiles of several key raw materials, like oil, continue to pile up, speculators have been snapping up commodities at the fastest pace in 18 months. Figures compiled by the Reuters/Jefferies CRB Index show that 19 commodities rose 29 percent from March 1 through last month, after plunging 50 percent in last year’s second half. That was the steepest loss in more than five decades.
For investors who have shifted a significant portion of their portfolios into commodities, the risk is that the supply of raw materials is growing far faster than overall demand. For example, statistics released by the U.S. Dept. of Energy show that oil inventories are up 15 percent over a year ago. The Baltic Dry Index, a barometer of raw material demand, indicates that demand for all commodities slid 41 percent in the third quarter.
Since their March lows, oil prices have swelled by 57 percent, and the value of copper has risen 90 percent. If global industrial demand for raw materials doesn’t heat up soon, like stocks, there is an increasing risk that commodity prices also will start retracting.
University of Calgary economist Phillip Verleger, who correctly forecast in 2007 that oil would reach $100 a barrel, now says crude will fall below $40 by year’s end. Copper may average 22 percent less this quarter than last after monthly shipments of refined copper to China, the world’s biggest user, tumbled 25 percent in August.
More Stimulus Needed?
In spite of the weak economic growth, investors have plowed $10.2 billion into commodity funds during 2009, a six-fold increase from a year earlier.
Although raw material prices will likely keep moving higher as the dollar pulls back further, this may only heighten the vulnerability of the commodities bubble unless global industrial demand starts picking up. Because industrial expansion is linked to the availability of credit, and most bankers still are reluctant to lend, demand will probably remain sluggish well into next year.
Until then, the only thing standing between another severe dip in both the stock and commodities market may be further economic stimulus from the U.S. and other central governments, including the Chinese.
With fears over the size of the U.S. deficit growing, especially as the debate over healthcare reform has taken center stage, the President and Congress are going to have a tough time trying to convince the American people to swallow another major stimulus package.
If this political disinclination towards additional economic stimulus persists, the negative prophecies of market soothsayers like Roubini and Soros are more apt to come true.
John Cohn is a senior partner in the Globe West Financial Group, based in West Los Angeles. He may be contacted at www.globewestfinancial.com
