Greg Smith

Commodity Bubbles and Valuation: Imperfect Together

It seems to me that the run-up in gold, oil and agricultural commodities is more indicative of dollar inflation, and an inflation in paper currencies generally. The demand for commodities strikes me as relatively fixed, and so too does the supply, so it must be that changes in the price of commodities reflect more changes in the supply and demand for the currency of measure than they do the commodity itself.

That said, it is no wonder that commodities have been on the rise. The USA has made no strides in financing its long-term obligations (Social Security and Medicare) and now we are adding into the mix the need to pay for a "solution" to the interrelated problems of peak oil and global warming, real or imagined. At the same time, the fed has consistently lowered interest rates in order to rescue us from a crisis brought on by homeowners who should, by any rational measures, be better off as renters. Add to the war expense and the rise of protectionist rhetoric in the campaigns, and there's no surprise the dollar is getting clobbered, not only against commodities (real stuff) but against other currencies (relative fake stuff).

Of course the question is whether this will continue, and to that I have no answer except to say that at some point equities will reach irresistible valuations, while the fed will be forced to raise rates as the real inflation that we all know to be happening starts to finally effect the CPI. The leading indicator of this shift will be a sharp rise in yields on long treasuries - a good signal that the unacknowledged inflation behind the commodities boom is finally being acknowledged by traders. Its only a matter of time after that that Bernanke will follow, and the dramatic fall of the dollar, and rise of commodities will stabilize or reverse.