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Diversified commodities have suffered approximately the same peak-to-trough percentage decline as equities, illustrating the point that commodities are not a valuable hedge to a stock portfolio in a deflation scare and a liquidity crisis. However, just as it is not the time to abandon stocks, this is not the time to abandon commodity positions in the context of a diversified multi-asset portfolio. Those who are predicting an extended deflation (which would obviously be a negative backdrop for commodities, as well as equities) should re-read Fed Chairman Bernanke’s 2002 speech on the subject of preventing a Japanese style deflation in the U.S.

In the midst of last deflation scare six years ago, Bernanke stated:

Deflation is always reversible under a fiat money system…Under a paper based system, a determined government can always generate positive inflation.

He went on to enumerate (prophetically, in light of the current environment) all of the tools at the government’s disposal to inject money into the economy. In the months ahead, it would not be at all surprising to see debt issued by the Treasury to fund tax cuts or federal spending “monetized” by the Fed (i.e. purchased by the Fed using newly created dollars rather than sold to investors). This is money printing in its purest form and would clearly be bullish for commodities.

Source: Fed's Positive Inflation Maneuvers Bullish for Commodities