The Stealth Commodity Index

When it comes to commodities and inflation, everyone seems transfixed on the performance of what we call the “big five"; that is, crude oil, gold, aluminum, heating oil, and wheat.

OK you may disagree as to exactly what the big five are, but to us that disagreement is merely rhetoric! The fact is that if you look at the performance of the big commodity tracking indices they appear to have gone nowhere since the start of June and are barely changed since the start of the year. This dismal performance in essence is the reason why the deflationists/dooms-dayers are really excited, claiming that the world economy is not improving etc and that there are no inflationary pressures developing in the “foreseeable” future.

Crude oil, gold, aluminum, heating oil and wheat. These five major commodities seemingly attract all the attention whenever inflation is discussed. Some may know these as the “big five”. These and the other commodities included in the CRB appear to be caught in a trading range, neither breaking down nor breaking out.

If this were as far as the eye can see then serious doubts about the so-called economic recovery would indeed be justified. How can the world’s economy be recovering if there is no increasing demand for the major commodities?

Digging a bit deeper, as is our wont, a slightly different picture may emerge. We like looking at things from a different angle every so often. It’s a conscious effort not to get stuck in a single mindset.

To this end, we’ve put together our own commodity index. The constituents are what we feel are the five major commodities not commonly tracked. These are basics used in the manufacture of just about every product and are rubber, coal, polyethylene, wool, and pulp. Due to the way they are traded, and not closely followed as part of any index, they are comparatively free from speculative activities. So our view is that they should provide a more transparent view of industrial activity and also serve as an inflationary indicator.

So let us compare our “lesser spotted five” with the “big five” (using DBC as a proxy; note the addition of corn is not material in this case).

Our Proprietary Commodity Index: The Lesser Spotted Five

PowerShares DB Commodity Index Tracking Fund - DBC

Clearly a different picture emerges.

Performing back testing, we can see that our “lesser spot” index has a strong enough history to be considered a leading indicator. Not the only thing one would use, but just another tool in the armory.

Our feeling now is that the “Big Five” commodity prices will start once again to wind their way upwards.

This is just something we wanted to share. Make of it what you will. Contrasting opinions most welcome.

Disclosure: Long DBC SLV

Comments

[Alan Young:]

Interesting! Thanks.
How about a long-term chart of your index vs. a major market index, so we can see how it works as an indicator?

Sep 24 01:20 PM

[ManAboutDallas:]

If you want an "honest" commodity index, use the old CRB, which is now carried by most quote vendors as CCI ( Continuous Commodity Index ) or some close variant thereof.

Sep 24 02:25 PM

[Rohan C. Pease:]

Thanks for the insight, I believe your prop. index is very clever and useful.

Sep 24 03:53 PM

[FB5000:]

very interesting. i too would like to see a longer time series.
also the data is spot prices in USD?

Sep 24 06:01 PM

[Ricard:]

Hm...40% rise in 6 months. Interesting...

Sep 24 07:14 PM

[tripleblack:]

Creative approach. I like it, and the logic works for me.

Sep 24 08:48 PM

[CAPITALIZER:]

Very sharp-minded research and thanks for sharing it with us.

Sep 24 09:09 PM

[Thomas MacLeod:]

It works too well that is why we don't want to publish too much history


On Sep 24 01:20 PM Alan Young wrote:

> Interesting! Thanks.
> How about a long-term chart of your index vs. a major market index,
> so we can see how it works as an indicator?

Sep 24 10:29 PM

[Thomas MacLeod:]

yes the old CRB is our favourite commodity index because it gives the performance of the "average" commodity. We wanted to look at commodities that sat outside the CRB......i.e. to look where no one else is looking


On Sep 24 02:25 PM ManAboutDallas wrote:

> If you want an "honest" commodity index, use the old CRB, which is
> now carried by most quote vendors as CCI ( Continuous Commodity Index
> ) or some close variant thereof.

Sep 24 10:31 PM

[Thomas MacLeod:]

yes it is spot prices in USD


On Sep 24 06:01 PM FB5000 wrote:

> very interesting. i too would like to see a longer time series.
>
> also the data is spot prices in USD?

Sep 24 10:31 PM

[I am NOT Ned!!:]

Sparkly Glowy Cetin!

www.youtube.com/watch?...

I LUV U ANI!!


On Sep 24 08:12 PM bestpicksr wrote:

> /
> hat tip to tinyurl.com/n854tt for the good articles

Sep 25 12:34 AM

[Homer II:]

Thanks Thomas, for that timely piece of clever research. As many folks banter about whether we are seeing deflation or inflation, it is data like this which can help narrow down the speculation.

Sep 25 01:24 AM

[lbsterling:]

Just adding to the chorus above: very interesting. Thanks for bringing new information to the table rather than rehashing known facts.

Sep 25 02:43 AM

[Gassy:]

Oil, the major component of big 5 has not given much of a return is probably also to do with having risen too fast (doubled) over 6 months but also the contango in the market that takes away a lot of the gain for indices.

Sep 25 06:34 AM

[Uday Maitra:]

very interesting idea.

btw, i am not sure about the inflation angle, but usually it is the soy complex futures in agriculture (not wheat) that leads the trends in the sector and usually is also the most liquid.

Sep 25 10:35 AM

[Uday Maitra:]

btw, i just also remembered that a few people look at weather trading data (hdd, cdd or otc instruments) which is also not very liquid, but they claim it can be sometimes be a leading indicator for nat gas. (although i doubt it!).

Sep 25 10:40 AM

[aureus:]

Thnak for once more giving fresh perspectives. Frankly, I am quite impressed by your original, simple but still profound approach!

Terje

Sep 25 10:50 AM