In the aftermath of the Fed's latest policy statement, I am resolved to certain conclusions that have become more and more apparent.
In a world already largely at the zero - bound rate structure, with increasing numbers of yields now negative, but with entrenched powerful deflationary forces abundantly evident, I am resolved to conclude, Central Banks simply cannot stimulate growth in regions of the world (which is to say all of the developed world) where it is restrained for secular reasons.
Central banks can attempt to Compete for the limited supply of growth, through currency devaluation and increased exports, but cannot create it. With all central banks attempting the same trick, it becomes by definition a zero sum game.
Although US consumers for example have substantially deleveraged, and have apparent credit and spending ability, zero rates have been unable to force increased spending preferences.
There are reasons for this, including, no need, and no desire, both of which are related to the number one problem facing developed economies -- aging demographics.
Older people, simply do not need to consume as much. They buy less homes, furniture, gasoline -- everything. We are between generations in the US, and are awaiting the next generation to move into their peak earnings, spending and investment years.
When we look at the world, Europe is older than the US, and Japan is older still. This explains a lot of why Japan has had economic demand issues prior to Europe's, then the U.S., all of whom are facing the same problem -- a lack of robust, organic demand. Don't look now, but China is rapidly aging, as well, and may become a major issue in this regard.
Fiscal policy, which is a potential solution to bridge the gap, has been weak in all of these locales, as there is little political appetite for the added debt this would require. Nonetheless, I see it as only a matter of time before an overhaul of fiscal policies is demanded from the voters. It may take a crisis of growth to light this fuse demanding change.
All of this background leads back to my title -- King Dollar. In light of the deflationary forces entrenched in developed economies, and the eventual flows into the U.S. dollar, set loose by the conclusion of US QE programs, it should be no surprise to see commodities under sustained pressure and in a secular bear market -- I am only just hearing this term accepted!
One by one, like dominoes, commodities have been locked into sustained downtrends -- starting with coal and iron ore in the aftermath of China's slowing structural growth rate, progressing to copper, and now to oil and grains.
Some 5 year charts for perspective: Coal
^DJUSCL data by
And leading producer Peabody Energy (NYSE:BTU)
Copper, then leader Freeport:
And finally Oil, followed by leader Exxon Mobil, which is rolling over:
The point I am trying to make is this: The U.S. dollar is a steamroller, as the undisputed reserve currency in a world without a viable alternative. When you consider the U.S. dollar rationally, considering the state of the world, where would you rather keep your funds safe? The U.S. dollar looks awfully good right now, with China slowing and having to do more and more to avoid a hard landing, and the Euro's very stability an open question mark. (At least in my mind!)
Any future crisis would only serve to heighten this effect, and barring a new US QE program, I expect dollar inflows to continue against most world currencies.
Id like to point out something else of critical importance to energy sector investors. As you will note in the charts above, the major damage to the leaders and financially strongest companies in Coal and Copper respectively, BTU and FCX, has occurred well AFTER most of the damage to their respecting commodities. FCX has been cut in half just since mid last year, and BTU by a further 2 thirds. I reiterate these are 2 of the strongest, blue chip names in their sectors.
I believe the extended period of commodity weakness is battering the financial position of these companies (not to mention the sheer devastation in the smaller, weaker names).
The risk implications for investors attempting to pick the bottom in energy producers, oil servicers, construction equipment (NYSE:CAT) should be obvious. IF crude oil does not rebound sharply within the next number of months, this group of stocks is likely to financially weaken further. The sell off we have seen to this point, may just be wave number 1 of a secular bear move in the whole group.
Considering the amount of credit extended to US shale oil projects, this has continuing implications for credit markets, as well.
The further implication for the strong dollar, commodity deflation story, is following copper, oil and coal, what other "commodities" are subject to deflationary forces: I can think of 2 areas of focus: construction / mining equipment and semiconductors.
CAT data by
Semiconductors have long been a cyclical, commodity like product.
I note following a large stock price run-up, Intel just warned on revenue guidance. I also note the continued struggle of Micron Technology to advance, in spite of a very positive corporate story:
Money continues to flood into areas like Biotech, masking the underlying cyclical weakness. IBB has gone parabolic:
In closing, the fact that these deeply cyclical group of stocks are continuing to weaken in the face of zero interest rates should be concerning, and encourage a cautious intermediate term posture towards US growth stocks.
I continue to be a long term bull on the U.S. economy, but am cautious at this juncture about financial markets decoupling from the organic growth in the real economy. More proactive fiscal policy and a successful "handoff" to the younger generation would be a great positive in this regard.
Disclosure: The author is short MU, JOY.