Commodities Rally With Everything Else

The room was humming harder
as the ceiling flew away
When we called out for another drink
the waiter brought a tray

– From “A Whiter Shade of Pale” by Procol Harum

Everything up; dollar down. That’s been the trend of late, in anticipation of what the pundits are calling QEII – the Federal Reserve’s earnest promise to further debase the currency through the purchasing of government bonds…and assorted other shenanigans and high jinks to be announced in due course.

The thinking, if you can call it that, behind the Fed’s program is both simple and simple-minded. By threatening to ignite an inflationary inferno, the world’s central bankers – from Washington to the Far East – are hoping to “bring forward” future demand. Flooding the system with freshly-inked bills, they promise to make the dollar of tomorrow a little (or a lot) leaner than the dollar of today, thereby incentivizing savers to spend more on things their children won’t have the chance to buy for themselves when there is no more money (of value) left in the bank.

This kind of modern day monetary phlebotomy, whereby bankers promise to restore the strength of a hemophiliac economy by draining ever more of its crucial liquid, is, of course, nonsense. The fact that it works for a while, however, is key to the fraud. In the short term, people see all the “right” things – stocks, bonds, their national GDP – going up. They think they’ve hit upon an eternal sunrise. Then comes high noon…followed by the somber realization that afternoon is nigh. By nightfall, the eternal sunshine of the optimist’s mind is left, once again, out in the shivering cold, struck by the reality that central planners can’t stop nature from running its course.

At the moment, however, a deadly high noon showdown seems a long way off.

Stocks rose beyond 11,000 this week, tacking on another 75 points in yesterday’s session alone. Commodities are on the march too. The Continuous Commodities Index (a basket of 17 major commodity market prices rolled into one composite index) hit a fresh, two-year high this week, with everything from the grains to silver, copper, lumber, cotton and crude oil all creeping higher.

And that’s to say nothing of gold, that curious outsider of the financial world. The spot price rose above $1,380 per ounce yesterday. Gold bulls, as the newswires enthusiastically inform us, already have “$1,400 in their sights.”

The metal could be flirting with a short-term correction, posit some. With so many foamy mouthed traders piling in on the buy side of the trade, a few brave souls reckon it’s due for a quick snapback, possibly shedding $100 before it resumes its lunar trajectory. Maybe…but we’d rather be long central banker arrogance than short day trader enthusiasm, at least from an investment perspective. Traders will get it partly right and partly wrong along the way, in other words, but meddlers will always claim they know more than they can possibly know about the way the world works. Worse still, they always act as if they believe such a claim.

And so, with men of such impossible confidence manning the world’s printing presses, who would be willing to bet against gold over the long haul? Right now, the Dow/Gold ratio (assuming $1,380 per ounce gold and 11,100 on the Dow) is pretty close to 8:1. Historically, stocks become cheap and gold expensive at a ratio of between 1:1 and 2:1. In other words, when you can buy every company on the Dow Jones Industrial Average for the price of one or two ounces of gold, it’s time to sell your metal and load into, what will then be, massively out of favor stocks.

As for now, the sun is probably still on the rise. Everything is going up. Our bet is that this trend continues until, very suddenly, it doesn’t.

Joel Bowman
for The Daily Reckoning