Imagine if you will the “Global Commodities Market” much like you would your local farmers market. Vendors from far and wide, there with their goods on display and priced to sell. You’ve got corn, sugar, coffee, wheat, beef, gold, silver, copper, oil and even some live cattle there in the back. Everything a person (or a nation) could ever need, all there in tidy rows – neat and organized, ready to go.
Only thing is – you’ll have to make a quick little stop to see me at the “foreign exchange window” before heading in……….. as you guessed it – all items are priced in U.S dollars.
With global trade in the trillions of U.S. dollars every year – and this “market” paying taxes to the U.S. government. It’s a pretty good system for the U.S don’t you think? – Not to mention my little “currency exchange” on entry – (I’ll save this for another post and topic entirely).
The U.S. dollar and commodity prices generally trend in opposite directions. As the dollar declines (relative to other currencies) the reaction can be seen in commodity prices.
Commodity prices have a direct effect on bond prices. As commodity prices escalate in an inflationary environment – so in turn interest rates rise to reflect this inflation. Rising interest rates and bond prices (TLT) fall. When bond prices begin to fall, stocks will eventually follow suit and head down as well. As borrowing becomes more expensive and the cost of doing business rises due to inflation, it is reasonable to assume that companies (stocks) will not do as well.
Putting this all together does take some time – but by monitoring even just the USD and the major currency pairs, a couple of commodities such as gold or silver, the SP 500 and the 20 year bond (TLT) – the average trader at home should be able to get a handle on “what’s really going on”. I spend my time in the currency window as I strongly believe that moves in other asset classes are first seen here – as the fx market is the largest and most liquid on the planet – dwarfing the daily volume of the NYSE by well over a 100 times.
We can look at a real world example next……..