Turning the Corner
Board: Macro Economics
”…Surplus production and record-low interest rates combined to encourage financing deals in everything from aluminum to zinc. They typically involve the purchase of metal for nearby delivery and a forward sale to take advantage of a market in contango, where prices rise into the future. The transactions lock up metal in warehouses and make it unavailable to buyers…”
Dear head scratching Fools:
At one time, not too long ago, (perhaps a week or so) this strategy was known as “cornering the market”.
The article seems to imply that this strategy, applied to metals has reached its maximum. The next step is to ‘carry over’ to agricultural commodities: ”…”They’ve seen this work in metals so all they’ve done is taken it across to agriculture,” said Colin Hamilton, the head of commodities research at Macquarie Group Ltd. in London. “You have so much material in a given location that it becomes essentially impossible to load that out to the extent that the market needs…”
It seems that cocoa is piling up in concentrated locations: “…Warehouses in Antwerp, Belgium, held 61 percent of cocoa certified for delivery by the NYSE Liffe exchange on June 24, compared with 36 percent a year earlier, bourse data show…”
So could this be happening with other agricultural commodities as well?
Perhaps this goes part way to explaining why we’re seeing prices rise on the retail level for all sorts of things. It isn’t because of robust, booming, wildly exuberant consumer demand but it is, in part, because of supply constraints. Let me point out here that the same thing is happening in the US housing market. Supply constraints are causing bubble like increases in single family homes and an increase in the production of rental units. I can tell you from a lifetime of experience, even with a reasonable well-paying job, rent takes a big bite out of savings. Low rates are good for housing in the short term, but destroying a sustainable housing market long term.
And as if to add insult to injury, the recent housing boom has caused a spike in mortgage rates! Ah! So supply trumps Fed policy??
I’m amazed that central bankers from Tokyo to Beijing to Brussels to Washington just don’t get it! Asset and commodities markets have efficiently adapted to take advantage of low interest rates and that adaptation is doing very little, if anything to help the real economy. Central Bank policies have incentivized markets to profit by making use of low rates to employ strategies that are completely disjoint from real economies the world over.
In fact one just might be inclined to think that as long as low rates are used by the private sector to continually leverage up to meet (or beat) their return benchmarks, then there’s less incentive to invest capital towards growth.
If that premise is correct, then the incentive becomes to not grow, since growth will lead to higher rates and higher rates will force leverage strategy unwinding and thus diminish returns. Rate repression is, in fact, creating a society of equity poor renters and under employed part timers! Rate repression is discouraging saving and investing and makes it difficult or impossible to retire! It’s making equity and fixed income markets way too risky for even ‘long term’ investing, unless you don’t mind getting stuck with a 30 year bond at 3.5% or thereabouts.
What I simply can’t comprehend, based on what I’ve heard and read recently is that central bank policy is blind to the big picture: economies are stagnant, with supply driven rising prices and asset markets hanging on their every word. They seem to believe that weak, mediocre trends are an indication of overwhelming success and record breaking asset markets are no cause for concern!
It’s possible that a different approach will increase the velocity of money through the real economy. This seems to me to be a less risky approach than claiming that money velocity is irrelevant while markets are breaking new highs every day!
”…Former Federal Reserve Gov. Laurence Meyer told CNBC Tuesday that velocity of money—the rate at which capital is transacted in an economy—shouldn't concern markets, and he dismissed the metric as a guide in setting central bank policy…”---CNBC
Do Fed governors, former or otherwise think this way? If the indication is bad, the indication doesn't matter?
Are they for real?
The problem is not that rates are low. The problem is that rates are too low. Rates must be allowed to rise enough to force those oceans of capital out of ever levered markets, thus making consumer lending more competitive and profitable, but not so high as to make money too expensive for those consumers.
Just forcing rates as low as possible is a “brute force method” needed for the worst possible situation. We’re well past that point. Central banks need to allow markets to find their own level and the sooner the better.
The Fed and their Asian and European counterparts need to choose between two realities. One is stagnation created by artificially supported prices and markets, ad infinitum or until it works. The second is to risk letting rates rise to a sustainable level and suffer through a market correction.
If policy relentlessly continues along these lines, it won’t just be cornered markets, but a cornered middle class!
Your locked-in Fool,