China slowdown threatens commodity demand

Conservative approach to investments is warranted

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This past week saw a plethora of information affecting the various markets we follow and report on -- not the least of these was concern that China. The world’s largest consumer of raw materials and products was reportedly experiencing an economic slowdown.

Another factor was the ongoing Greek debt crisis which developed into the question of whether or not Greece would leave the euro currency. This would create serious problems for the Eurozone as billions were already pumped into Greece to forestall or, in our opinion, delay the inevitable default. The U.S. is not excluded from either the global financial situation nor the ongoing U.S. labor, mortgage and credit default problems which have not abated.

We have persisted in pointing out, over the past few months, that job creation of 115,000 plus jobs monthly does not offset the weekly job loss of 350,000. I do not know why there is euphoria at the job creation numbers when each worker applying for first time unemployment benefits has obviously lost a job. A monthly gain of 115,000, therefore, against a monthly loss of 1.4 million does not garner optimism and the various problems outlined here are not conducive to an economic recovery. A conservative approach to investment maintenance is warranted. Now for some actual information.

Interest Rates: June treasury bonds closed at 148 10/32nds, down 2/32nds but does not mean the recent price run from the 135 level in mid-March is over. We are monitoring the bond market closely as our clients have positions in the so-called "strangle" spreads. These spreads bracket the bond price with a short call and a short put in the hope that the actual price will not approach the strike price of either option. Of late the positions have had to be "rolled" forward sustaining some losses. We continue to favor the use of options until which time as some stability returns to the equity markets which have prompted the move of money to the safety of the treasury market. Unfortunately the ongoing global concerns continue to permeate international markets and our advice to investors is simply to apply a conservative approach to investment management.

Stock Indices: The Dow Jones Industrials closed at 12,369.38, down 73.11 making its weekly loss 3.52%. That, added to last week’s loss of 1.6% makes the months loss over 5%…so far. The S&P 500 closed at 1295.22, down 9.64 for a weekly loss of 4.3%. The tech heavy Nasdaq, "almost" propped up by the Facebook IPO, which was disappointing, closed at 2778.79, down 34.90 for its weekly loss of 5.28%. We have warned for months that the ongoing global debt crisis as well as the "home grown" economic situation vis-à-vis labor and debt default problems would offset any of the "good news" emanating from Washington and lead to a possible "equity investment meltdown. We are fast approaching the "rim" of the "black hole" we see under the equity markets and once again recommend implementing hedging strategies for holders of large equity portfolios.

Currencies: The U.S. dollar closed at 8123.5, on Friday, down 30.5 points on profittaking after its recent run from 7866 on May first. The dollar has been up for 15 straight trading sessions and this correction on profittaking was warranted. While the G-8 meeting over the weekend produced pronouncements that "Greece would not be allowed to leave the Euro", we view those remarks as "hollow" and without merit. Unless the international community, including the U.S., are willing to "pump" more money into an economy that does not produce enough income to service existing debt, Greece will default and it may be in their own best interest to default, leave the Euro, return to the Drachma. It could then devalue its currency to a point where it can re-establish a foundation on which to return to economic viability. The Greek public is not willing to tolerate the required austerity measures by the ECB and the IMF in order to obtain additional funding in my opinion. Enforcement of those provisions could lead to anarchy. Stay with the dollar since any such scenario where Greece exists the Euro could have heavy consequences to the entire Eurozone financial stability.

Energies: June crude oil closed at $91.48 per barrel, down another $1.08 on Friday approaching our projected goal of $85 per barrel. We had been criticized in making that prediction when crude was over $1.10 per barrel but it would seem that "criticism" was unfounded, not our opinion. We will accept email "apologies" from those who remarked that we were "absolutely wrong" (tic)…..The economic slowdown in China, along with overall economic conditions globally prompted a decline in demand for crude and whether or not our actual price of $85 per barrel is reached, our expectation that economic pressure would cause a decline in demand and therefore prices was appropriate and correct. Take some profits on crude oil short positions or put positions. June natural gas closed at $2.742 per MBTU on expectations that warm weather patterns could cause increased usage by power plants to accommodate electric demand for air conditioning. June gasoline closed at $2.8895 per gallon, up 1.13c on expectation that the May 28 U.S. Memorial holiday, the start of the summer driving season, will increase demand for gasoline. June heating oil closed at $2.8367 per gallon, down 1.23c as it is a surrogate for diesel fuel. We prefer the sidelines for now but are looking closely at natural gas.

Copper: July copper closed at $344 per pound, down 3c in late trading Friday tied to concerns that the European debt crisis and the weakening China economy will reduce demand. We continue to favor the short side of copper but use stop protection. Copper has declined from February’s high of $4.00 per pound to current levels. Each penny on a copper contract is worth $250 and the 56c move was worth $14,000 per contract. We are not suggesting that we would have achieved that kind of profit since somewhere along the way, we would have suggested taking profits "off the table". On put positions may have accomplished that since the risk on purchases of options is limited to the premium paid. We look for continued pressure on copper but as is the usual case after sharp price movement, a correction is to be expected.

Precious Metals: June gold closed at $1,591.80 per ounce on Friday up $18.90 on a correction and shortcovering in front of the weekend. Gold has historically been used as a hedge against inflation and angst but recently the move to safety from the higher risk investments has been to the U.S. treasury market. Gold has suffered a sharp price decline from near $1,800 per ounce to the $1,500 level and a corrective shortcovering rally was to be expected. We once again remind investors that having some gold in their portfolio is fine but bear in mind that in 1980 when gold first traded at $875 per ounce, it took those investors over 25 years to break even. Not a very good return on investment (ROI). It could happen again from its current high of $1,800 and we therefore suggest minimal holdings of gold, not the 20-25% some "pundits" on TV are suggesting. July silver closed at $28.66 per ounce, up 64c but a far cry from the $37 per ounce level seen as recent as late February of this year. For those that "must" hold precious metals, we suggest silver over gold. The percentage gain for silver far exceeds that of gold over the past few years. On Friday for instance gold gained 1.1% while silver gained 2.5%. July platinum closed at $1454 in late trading, up $6.00 per ounce while June palladium lost $2.85 per ounce to close at $603 per ounce. Our spread suggestion of long palladium, short platinum remains intact however.

Grains and Oilseeds: July corn closed at $6.35 ½ per bushel, up 10 1/2c tied to the weak dollar on Friday but in sympathy with the wheat pit. Stay on the sidelines in corn. July wheat closed at $6.95 ¼ per bushel, up 37 1/2c as a heat wave strikes the growing areas and fears about the crop losses in the U.S. plains and in Russia prompted heavy short covering and new buying. We could see further price gains as technical momentum produces still more buying. The expectation of a bumper wheat crop is diminishing as the heat wave progresses. We have preferred the sidelines and will stay there for now until the next USDA report. July soybeans closed at $14.05 per bushel, down 33c on profittaking after recent price gains tied to the reduced harvest projected for November deliveries. We view the selling as an opportunity to buy calls.

Meats: June cattle closed at $1.19525 per pound, up 1.6c on shortcovering as herd rebuilding is progressing slower than anticipated due to the weather. Pressure on prices had been caused by markettings but recent price gains could be expected to continue back to the $1.25 per pound level. Stay with the calls. July hogs closed at 88.575c per pound, down 1.75c tied to increasing U.S. pork supplies as the warm weather leads to heavier hogs and higher yields for meat. We continue to avoid hogs.

Coffee, Cocoa and Sugar: July coffee closed at $1.7785 per pound, down 2 25c on profittaking but still managed a weekly gain of 1.1%. Roasters appear finished except for immediate needs. We continue to favor the long side of coffee but only with stop protection. July cocoa closed at $2,259 per tonne, up $35 and 1.57% tied to the strong sterling against the dollar. Technically cocoa has completed a 50% retrenchment from the March highs and the April lows. We could see additional buying and look to $2,500 as possible resistance. Stay with the calls but be prepared to take profits based on the sell stop levels for the futures. July sugar closed at 20.43c per pound, down 43 points as speculators sold on disappointing fundamentals. Expectation for increased Indian exports and improved prospects for output from Thailand prompted the long liquidation. The Indian and Thailand prospects offset concern over the possibility of a disappointing cane harvest in Brazil. We had been positive for sugar based on Brazil but have moved to the sidelines for now.

Cotton: July cotton closed at 77.99c per pound, up 1.34c tied to expectations that the recent price decline would prompt U.S. farmers to plant few crops. We could see further gains and remain bullish for cotton. Our expectation for $1.00 cotton remains intact.

About the Author
John L. Caiazzo



Information provided is from sources deemed to be reliable but not guaranteed. Futures and Options trading involve a high degree of risk and may not be suitable for everyone. John Caiazzo is a registered commodities broker with over 40 years experience in investments and opinions are his own and not of the Futures Commission Merchant to which he introduces his clients.

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