SaintCroix (98.96)

Commodities vs. Stocks

November 28, 2007 – Comments (5)

I've been reading Jim Rogers' book Hot Commodities, and it's an interesting read, to say the least.  Me, I'm a stock guy, I love stocks.  It fits my personality.  I'm optimistic.  An investment in stocks is an investment in humanity.  It's an investment in people who create jobs, create wealth, make the world a better place.  Or worse, whatever.  Anyway, they're doing something.  I like that. 

Commodities, that's investing in inanimate objects.  It's basically a negative investment, a pessimistic one.  You think the world's going to hell.  You don't trust people, you don't like 'em.  Even cash is no good.  So oil, for example, your bet is that oil is gonna outwit humanity.  We're not gonna find cheaper, more efficient ways to find oil.  We're not going to use our human ingenuity to find replacements for oil.  Oil is smarter than we will ever be.

One of Rogers' ideas is the importance of cycles.  Stocks is the investment class of choice for a decade or two, and then commodities, and then stocks again.  Rogers' has a chart to bolster his thesis.  You want to be in stocks from 1877-1906, you want to be in commodities from 1907-1920, you want to be in stocks from 1920-1929, you want to be in commodities from 1930-1949, you want to be in stocks from 1950-1969, you want to be in commodities from 1970-1983, you want to be in stocks from 1983 to 2000.  With the tech crash of 2000, according to Rogers, now is the time for commodities.  He figures we're in the middle of a cycle that will last until around 2014 or so. 

It wouldn't surprise me if Rogers is right about his commodity cycle theory.  The world is getting more negative (good for commodities), supply for many commodities is very low (good for commodities) and demand from China for commodities is high (good for commodities).  Plus he's got a point that it takes years and years for new mines to be discovered and to produce anything.  So when demand shoots up and supplies are overwhelmed, prices for commodities go up and stay up. 

One of my ideas (patent pending), is that historically the markets run to commodities when times are bad and people are afraid.  When our leaders are negative and pessimistic.  For instance, Richard Nixon and Jimmy Carter were both great for commodities.  The entire decade of the 70's was a commodity decade.  When people are afraid of war, terrorism, that we're ruining the environment, these are all great for commodities.  That's when you want to buy the inanimate objects. 

Global warming--and environmental fears in general--are of course great for commodities, because they make commodities harder to get.  "No, you can't search for oil in Alaska, and you can't search for oil off our coast.  And the oil companies are evil.  But we expect you to find oil for us anyway."  That's a commodity market.  When you see a lot of "we're overpopulating the planet" stuff in the media, that's a commodity market.  Anything that's pro-earth and anti-people, that's a commodity market.  When Jimmy Carter wants you to turn off your electricity and wear blankets, that's a commodity market. 

Think of commodities as being on the side of bad.  Anytime bad is winning--terrorists, World War II, nuclear holocaust, plauge, pestilence, death--you want to be in commodities.  When Eisenhower is playing golf, when Reagan is taking naps--or cracking jokes when somebody tries to kill him--you want to be in stocks.  Berlin wall comes down in '89, Communism has lost, you want to be in stocks.  Terrorists are blowing up people in Iraq, you want to be in commodities.  If we win the Iraq war, stocks.  If we lose, commodities.

Right now, Al Gore is preaching fear.  The polor ice caps are melting, the cities will be flooded.  FDR, he ain't.  We got all the lefties scared about global warming, and all the righties scared about nuclear Iran.  So, commodities.  On the other hand, in the 21st century the biggest country in the world (people, yea!) goes from Communist to Capitalist.  Hey, we wanna be in stocks!  But the funny thing about all the positive news from China, it's actually been a boon for, yes, commodities as well.   

Rogers spends an entire chapter in his book talking about China, and how the demand there for commodities will drive up prices across the board.  And, of course, he's right.  Spectacularly right.  And not just right today, he called this in 2004, three years ago.  My 25% return this year is dwarfed by the return I would have had investing in commodities.  Since Rogers' book Brazil (aka Commodity Town) has doubled, and doubled again.  Have they quadrupled?  Brazil is insane!

Can you have mini-crashes along the way?  Sure.  Just like the stock market in good times, pick the wrong ticker and you're toast.  Knowing you ought to be in commodities doesn't tell you what commodities you should be in.  And to make it harder still, unlike a stock, a commodity can be difficult to buy.  For example, you can buy iShares of gold and silver, but you can't buy iShares of copper or zinc or sugar or coffee or aluminum or iron. 

But it makes a lot of sense to diversify into commodities.  If you're like me, almost all of your portfolio is gonna be in stocks, anyway.  Ah, screw you, pessimists.  That's what I say.  But owning one or two commodities in your port can goose your returns in bad times, and give you the extra capital to invest in stocks when prices are low.  And commodities themselves can be fantastic investments when the world goes bad. 

I'm only going to put a small percentage of my portfolio into commodities, 5%.  I'm going to avoid commodity futures (too risky), and avoid oil and gold, the two most popular commodities.  Instead I'll look to invest in unpopular commodities where the demand is surging, or even better, will surge in the future.  Commodities like iron, titanium, sugar, zinc, or aluminum.  Since I can't buy these commodities without buying futures, I will instead buy the companies who control them.