Headline (Globe & Mail) JULY 2005

The headline you see here is from 2005.  It appeared at the height of the last frenzy in energy markets, and  I fear we are at that stage again.  Here is a headline (Bloomberg) from today:

“Oil increased for the fourth time in five days as speculation that the European Central Bank will further raise interest rates strengthened the euro against the dollar, boosting commodities’ appeal as an alternate investment.” 

 It begs the question, as an ‘alternate’ to what?  Commodities and gold, real estate are all considered to be hedges against the onslaught of inflation but it really isn’t that simple.  Upward pricing pressure occurs for complex economic reasons.  For example, I wrote this for my newly released book almost a year ago, but I was talking about what was happening back in 2005-ish.

“After all, economic theory and common sense dictate that if the price of oil rises so much that other industries dependent on oil can’t make profits, and consumers must cut back their buying because they’ve spent all their discretionary cash on fuel, then economic growth must falter.  Demand for oil then reverses and ultimately so does the price.  The onset of global recession obliterated all the gains made in energy sector stocks much faster than they were earned.”

It should not be surprising then that virutally every sector senstive to oil prices would have to increase pricing in order to keep profit margins from eroding.  Today though, there is a slowdown in global industrial production 1) due to cost pressures and 2) do to the disruption of economic activity due to Japan.  The latter has only begun to be felt – Toyota shutting down auto plants around the world is a dead giveaway.  The ECB might lift interest rates, but it really isn’t necessary – the effect of oil prices and Japan will cause the required dampening.  The US dollar is taking a short term licking, but the weak dollar is the best thing for the US economy.  Sectors ‘in’ global demand with pricing power will continue to help the US trade deficit.  I’ve argued that the breadth of the stock market will improve, and that it is sectors being ignored currently that offer the most promise.  A case in point:

“Stocks rose the most in a month and U.S. index futures gained as Intel Corp. (INTC) forecast higher sales and company results in Europe and Asia beat estimates.”

The message? Don’t get lured back into early cycle plays like commodities (oil, copper, gold) because the really big returns are to be had elsewhere.  I do expect (see previous commentary) a correction of sorts will be necessary soon, but the best defense is a good offense (finally applied last night by the Chicago Blackhawks).

Invest to Live; Live to Ride