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Commodities Versus Equities (Energy Crisis Part I)

Presented by: Paul Schatz

Over the past few weeks, a number of folks have requested some commentary on the surge in the energy market and its lasting impact the global economy.  First, I am not an economist; never have been and never will be.  Thankfully.  I try to make common sense judgments and steer clear of popular delusions. 

 

So I decided to make this a two part article on the behavioral difference in stocks versus commodities and then a focused article on directional movement.

 

If we take a step back, there are certain commonalities in various asset classes.  For instance, the stock market generally moves higher over long periods of time as economies grow and new technology makes us more efficient.  In the U.S., there's roughly an 8% tailwind to owning stocks over time, making it difficult to bet against the market for periods longer than 10 years or so.

 

Additionally, stocks exhibit certain behavioral patterns at tops and bottoms.  Generally speaking, stocks tend to see sharp, waterfall type declines and rise at a more measured, stair step pace.  Tops usually roll and roll, rather than move in parabolic, straight up fashion.

 

The commodity markets are very different. They seem to have an equilibrium point where price oscillates around in major cycles that last years and years.  There has not been any discernable tailwind that permanently aids commodities like equities have.

 

Behaviorally, commodities are the exact opposite of stocks.  They scrape along the bottom for weeks and week, months and months, and years and years before embarking on a new bull market. 

 

Conversely, at peaks, commodities see these spectacular, jaw dropping rises.  The rise goes much, much farther than anyone ever believes until common wisdom says that we are in a new paradigm.  Only then do we see as dramatic a collapse as we saw in the rally.

 

Another difference in the two asset classes is the duration of secular bull markets.  When you think about stocks, most people agree that they generally trend higher for most decades with a few exceptions like the 1930s, 1970s and 2000s.  Commodities spend most of the time moving sideways in a broad trading range, but during a few wild periods like the 1970s and 1940s, they become the hottest investment in the world.

 

In short, commodities are almost the exact opposite of the equity market.

 

In next week's issue, we'll talk about whether this gigantic rally in energy is here to stay for the rest of our lives or building to a major top. 

 

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