Commodities Quietly Breaking Out

May 21, 5:00 pm EST

Last week, rising market interest rates in the U.S. were becoming a concern.  But as we discussed on Friday, we ended the week with a big bearish reversal signal in the 10-year yield.  This week, the market focus seems to be shifting toward a lower dollar and higher commodities.

Friday’s bearish signal in rates seems to have foreshadowed the news coming into today’s session, that Italy is putting forward an agreement for a coalition government that would break compliance from EU rules (an “Italy first” approach to an economic and social agenda).

That has created some flight to safety in the bond market.  You can see in this chart below, money moving out of Italian bonds (yields go up) and into German bonds (yields go down).

And that means money goes into U.S. Treasuries too.  So you can see U.S. yields (the purple line in the chart below) backing off of the highs of last week, and with room to move back toward 3% (or below) if this dynamic in Italy continues to elevate the risk environment.

Now, with the rate picture softening, the dollar may be on the path of softening too.  That would be a welcome site for emerging market currencies.  We discussed last week how the push higher in U.S. yields was putting pressure on emerging market currencies.  And the combination of weaker currencies and higher dollar-denominated oil prices was a recipe for economic strain.

Today, Larry Kudlow, the Chief Economic Advisor to the White House, carefully crafted a response on the dollar, as to not say they favored it “stronger.”  That’s probably enough, given the rising risks in emerging markets, to get the dollar moving lower (to alleviate some of the pain of buying dollar-denominated oil for some of the EM countries).

And it may be the signal for commodities to start moving again.  Because most commodities are priced in dollar, commodities prices tend to be inversely correlated to the dollar.

Today we had a fresh three-year high in the benchmark commodities index (the CRB Index).

Here’s an excerpt from one of my Forbes Billionaire’s Portfolio notes back in June, on the building momentum for commodities: “The technology sector minted billionaires over the past decade.  It’s in commodities that I think we’ll see the new billionaires minted over the next decade.  The only two times commodities have been this cheap relative to stocks was at the depths of the Great Depression in the early 30s and at the end of the Bretton Woods currency system in the early 70s.  Commodities went on a tear both times.”

We’ll take a closer look at this tomorrow.

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