Should You Buy Into SuperCycles in the Stock Market | Stock Talk Podcast

Why analysts and the financial press love the term “super-cycle,” I can only guess.  I guess it is used to relay the idea that you can buy anything in the group or industry at any time and you’ll make money.  It’s most commonly used when referring to commodities, but over the last 20 years, it has made its way into the general lexicon of virtually every S&P500 sector.  Remember the semiconductor “super-cycle”?  Or the biopharma “super-cycle”?  How about the “fertilizer” super-cycle?

I recall hearing on TV from several food analysts that “People have to eat.”  Did you forget about the “agriculture” super-cycle?  Or the plant-based protein “super-cycle?  The “EV,” electric vehicle super-cycle?  I could list another 5 or 10 I’ve heard about in the last ten years, and guess what?  None of them were very “super” by the time that term was thrown around to describe them in public equity markets.

I am Chris Perras with Oak Harvest Financial in Houston, and welcome to our weekly stock talk podcast.  Before we get into this week’s topic on “super-cycles,” please take a moment to click on the subscribe button and the notification bell so you will be alerted when our team uploads our latest content.

Super-cycles;  We hear the term thrown around all too often on TV and in newsletters mainly as a way of trying to message investors that the coast is clear and you can buy stock in the “super-cycle” deemed group and make money.  I’m not going to address all of the prior anointed super-cycles in industries outside of commodities because whenever I hear that term in the press, my first instinct is to sell everything in the anointed group, run and hide from the sector and never look back for years.

Commodities, like other sectors, usually move in bull and bear market cycles.  Historically, these moves have been much more consistent and predictable in commodity groups than in many other sectors in the stock markets.  Why?  Because the capital expenditures needed to expand supply in major ways throughout the commodity complex are usually massive in nature, take years to come online, and lag demand.  Under normal conditions, rising demand or an insufficient supply tend to push prices gradually higher.  However, in commodity markets, after the initial time lag needed to add supply, oversupply will normally bring the market back into balance, and prices usually revert and balance, often times lower than where they first made their upward move.

Why does this happen, particularly in the commodity complex?  Because the definition of a commodity is this:  First off, it is a hard asset that you can touch that falls into one of three areas, agriculture, like corn, wheat, and soybeans, energy commodities such as oil, natural gas, or gasoline, and metals such as gold, silver, and platinum or EV metals like cobalt or lithium.  Secondly, it is almost always bought and sold purely on price with little to no other distinguishing features.  This means there is little to no brand preference or benefit of buying commodity producer A’s product over producer B.

How many of us still drive specifically to an Exxon gas station or Shell station instead of pumping at Costco?

How many of us pick up a pound of ground beef at the supermarket and look at the “brand” and put it back thinking, “no, I don’t like that company,” I’m not buying their hamburger or ribs?  There are a few people out there who do that, but it’s rare.

On the other side of that aisle, you have a product like Coca-Cola, which is essentially made up of simple commodities like water, corn syrup, and chemicals.  However, its branding receives loyalty, and a higher price, because of its perceived differentiation from other cola drinks.  A low-cost store brand is more of a commodity because it isn’t much different from other store brands.  It’s bought primarily because of its low price, not its taste or reputation.

Commodities super-cycles, where commodities trade above their long-term price trend over a long period, are rare; however, they do exist and have existed for the last two centuries.  They are most often initially caused by rapid money supply growth, which we had for 18 months post-Covid.  Tak a look at Stifel Financial’s chart overlaying the M3 money supply growth and the US CRB Index.

As one can see, the correlation between money supply growth and commodity prices is strong, albeit with a bit of a time lag.

The last commodity cycle occurred between roughly 2001 through June 2008.  This cycle was fueled by the industrialization and economic growth of China as they invested massive infrastructure capital in front of the June 2008 Summer Olympics in Beijing.

China and a few other emerging economies were on a path of rapid industrialization, which created an unprecedented demand for raw materials that producers struggled to meet.  This Infrastructure expansion and growth supported rising prices powered by the demand for industrial and agricultural commodities; prices rose almost each and every year into 2008.

The boom lasted almost exactly until China launched its Summer Olympic games in June 2008.  By then, greenfield commodity capacity was increasing right as the Great financial crisis hit and demand for raw materials crashed.  There was one last cyclical gasp for commodities themselves for about two years as we dug out of the financial crises, but the stocks of commodity producers lagged most other financial assets even as the CRB rose in price.

The question now is, do the current increases in commodity prices, oil, natural gas, grains, steel, or lumber, signal a multiyear permanent upswing beyond two years?  Or is it mainly being caused by a temporary acceleration in post-pandemic growth whle at the same time many countries where mines and commodities are sourced are being disrupted by Covid and the Russian/Ukraine war.

Here’s a 2-year chart on the CRB index since the Covid lows from the 2nd quarter 2020 until now.

Recall, oil traded at -35 a barrel in the second quarter of 2020.  That was only two years ago.  Investors and traders were actually paying you to take their oil instead of taking delivery of it!

Since the covid lows, The CRB index, a weighted basket of all commodities, has risen almost 85%.  Year to date, the same CRB index is up a little over 10%, while almost all sectors in the stock market are down except commodity-oriented ones.

Let’s compare the current climate to the prior 2001 through 2008 commodity super-cycle.  Here’s a monthly chart of the CRB for the last 25 years.

Comparing the current commodity move since the covid lows to the prior “super-cycle” of 2001 through 2008 as well as the post Great financial Crisis commodity rally that lasted from 2nd quarter 2009 through mid-2011.

One can see from the chart that the current recovery in commodities is almost identical to the cyclical recovery they experience post GFC.  That rally lasted a touch over two years as the CRB index rose close to 85%.  Our current commodity rally is approaching almost the identical height as we near an 80% gain over almost the exact time frame of a little over two years.

If a new 7-to-8-year super-cycle is in process, beyond our current 2 year rally, we likely need it to be fueled by 1- either a stronger and expanding world economy, 2- robust and sustained demand for several years from China, who with 1.3 billion citizens, remains the world’s biggest consumer of commodities, or 3- true unabated destruction of supply in the form of either more regulation, continued war in Europe, or the continued movement toward nationalism and away from globalization by governments and politicians.

The transition to a low-carbon economy, forced or not, will take decades, and its impact on commodities will not be homogenous or linear.  Each commodity will be impacted in different ways, as each raw material has varied exposure to nationalism and transition risk.

The switch to low-carbon energy has already provided a significant boost to the metals and minerals needed to build renewable energy infrastructure and produce the batteries that support the expansion of the electric vehicles (EVs) fleet.  So much so, that many are now becoming uneconomical to use and threaten end demand before all, but a small part of the transition is made.  Just ask Elon Musk about lithium availability and prices the last 18 months.

However, the EV push will not obsolete oil and natural gas.  Their usage goes far beyond transportation and heating, they are here to stay, and while some extremists call for it, they cannot be switched off completely without causing massively economic hardship to our economy and most citizens who are currently  using reliable, proven, efficient and abundant legacy fossil fuels.

Even if 18 months of rapid money supply growth support the idea of a new commodities super-cycle lasting 7 to 8 years, what we are witnessing now is more complex.  We are overlaying a cyclical upturn caused by reopening of economies, at the same time we witness supply disruptions in Russia and Ukraine, while the push by politicians for accelerated decarbonization and supply and capital investment restraint still exist.  It’s truly been a perfect storm for those needing commodities the last 12 months and goldilocks for those sitting on inventory or existing supplies.

I’m going to leave you with a few rays of hope for us having seen many peak prices in the commodity complex for 2022 and therefore their effects on inflation declining throughout the second half of the year.  Right now, the commodity run is increasingly reliant on higher energy prices as most other commodities have cooled off.

As I have said many times in the past, “lumber leads.”  It’s usually one of the first commodities to move up in a cycle, and it’s one of first ones to peak because the supply chain is short and if demand slows what do you do?  You let your trees grow another year and don’t harvest as much.  Here’s a 3-year chart of lumber.  It’s down over 60% from its covid highs.  Folks, its time to build the fence you put off for 2 years.

“Doctor Copper” looks like a sick patient and for all the talk of massive demand caused from EV makers, the commodity peaked 15 months ago and is now at best in a range and at worst rolling over.  Here’s that chart.

Steel, demand there must be good yes?  We hear about infrastructure builds and auto demand being positive.  Well, the price of steel is already almost -30% off its high and back to 2019 levels.  Here’s a chart of rebar which is the most commodity oriented of all the steel products.  Looks like its time to repair the driveway.

I know it probably doesn’t mean much now, but the only commodities whose prices have not already broken materially lower are grains and energy.  Grains of course are being affected by both the Russia/Ukraine war as well as weather here in the United States and Brazil.  However, I remind investors that grains are a soft commodity and in that nature are generally of the “use it”, “lose it” or “let it rot” category.  Given this, very long-term storage is not a great alternative for these commodities and as soon as price trend heads down, sellers with excess inventory come out of the woodwork.

That leaves currently high energy prices that are hurting everyone in the world who isn’t independently wealthy and flying on their own private jet to Davos Switzerland.  Here’s a chart on the CRB provided by TS Lombard showing the CRB and its 3 major components, energy, metals, and Ag.

As one can see, the energy commodities are responsible for almost the entirety of the CRB’s strength during the second quarter.   I am going to spend a future podcast on the energy markets, but for now, all I can say is that I’m hopeful they are peaking too.  Natural gas pricing might have peaked last week, as it was down -15%, down every day in Europe, and our domestic gasoline prices normally peak out near the heavy driving demand period of the 4th of July.

Recall that high prices are the #1 cure for high prices in commodity markets because once price declines begin?  No one wants to be caught offsides holding on to too much inventory in a declining market.  Just ask Target about caring too much inventory when prices decline?

Our team here at Oak Harvest knows that 2022 has been a trying time for those in the equity markets who are not trading oriented.  The markets sustained higher volatility is a harsh reminder to investors that stocks do not always go up and there are no guarantees in the public equity markets, unlike the insurance markets.  We know these sharp market moves drive emotions and the urge to make changes to what are supposed to be longer term asset allocations.

If the ongoing market volatility is making you feel uneasy, give us a call, and schedule a meeting with an Oak Harvest advisor.  Our team does have insurance-based tools that do not have the volatility of public equities.  However, we remind you, that these investments will also have lower long term expected returns for your savings and retirement.

At Oak harvest, we think our clients are best served by us helping them plan for their future needs, instead of focusing on the past.  The future and stock markets are always uncertain and that is why our retirement planning teams plan for your retirement needs first, and your greed’s second.

Give us a call to speak to an advisor and let us help you craft a financial plan that helps you meet your retirement goals.  Call us here at 281-822-1350, and schedule an advisor consultation.  We are here to help you on your financial journey into and through your retirement years.

I’m Chris Perras and from everyone here at Oak Harvest Financial Group, have a blessed weekend.