Three trends have come together and are igniting a deflationary environment. Central banks are fighting them with a fire hose of quantitative easing (inflation).
The first trend and, it’s slow at this point, is deleveraging the greatest debt bubble in history. The second is aging populations in the developed world and the third is falling commodity prices.
If governments and central banks are intent on fighting deflation, as they clearly are, they can’t be happy about commodity prices, especially oil, continuing to fall.
I’ve been arguing for years now that falling commodity prices is one of the least recognized indicators of the next global crash and financial crisis. The falling prices trigger a vicious cycle of slowing exports for emerging countries.
Look at China’s export bubble… falling commodity prices slow its emerging country markets, but China is the biggest importer of commodities to feed its manufacturing export machine (now the largest in the world). Then that in turn slows commodity prices further.
And there’s the perfect picture of the vicious cycle…
Emerging markets (EEM) are 29% below their late 2007/mid-2008 highs and commodity prices (CRB) are 47% below their mid-2008 highs. The first commodity crash hit sharply in 2008. The next one looks like it’s emerging progressively into 2015 to 2016.
The last global financial crisis was triggered by the subprime debt crisis in the U.S. and the next one we face could well be triggered by continuing falls in commodity prices and in the emerging markets that correlate most with such prices.
I have been commenting on how the CRB commodity index – including oil, gold and copper – have been trading in a sideways pattern for the past three years and that at some point they would break down.
The break down just happened. Oil broke below support at $75 to $80, copper broke below $2.90 to $3, gold broke below $1,180 and the CRB broke below $270.
But just when you would normally think they would break down sharply out of such long trading ranges, these commodities are now holding and look like they may have bottomed for now. Gold got extremely oversold, the most in years, and now looks likely to rally back towards $1,300 to $1,380 in the months ahead.
This is what these now trader-dominated bubble markets are doing. Traders take things up higher than anyone would think and then take them below support to scare every one out, then they buy and drive prices up again.
They’re intent on screwing everyone. The central banks are enabling them with zero interest rates which in turn allows them to leverage at unprecedented rates and producing a much high impact on the markets.
This makes these the trickiest markets I’ve ever seen to call short-term.
Oil’s plunge has been the most dramatic, as it was back in the crash of 2008 — $147 to $32 in just over four months. I’ve never seen a market fall that much… that fast.
It was caused by the high leverage of such increasingly dominant traders and hedge funds. And it was steep because they had to sell due to massive margin calls.
Oil has traded between $114 and $75 and finally broke down more sharply than other commodities, hitting $64 on December 1. It’s traded between $63 and $68 since then.
Oil is extremely oversold right now and has minor support from the early 2010 low around $64. After that there’s no obvious support on this chart. The next support is at $32, the late 2008 low… definitely not a pretty picture.
Saudi Arabia thinks oil will settle down around $60. Maybe near term, but that’s not what this chart is suggesting just down the road.
The most likely scenario would be a rally back to $75 to $80, then another crash sometime in 2015 down to as low as $32. I see oil ultimately bottoming around $10 to $20 in the years ahead.
But that could only happen if global growth slows much more and especially in emerging countries. A new China momentum indicator suggests China will slow to 4% to 5% over the next year, lower than its 6% low in 2009.
This can’t be good for the global economy and would strongly suggest another crash in stock prices as well.
Our view is that falling oil and commodity prices are a sign of the slowdown and deflation crisis ahead — not a good sign this time around.
In a deflationary environment, falling commodity and oil prices is not a good thing even though there are obvious benefits to consumers in the U.S., developed countries and China. Likewise, rising oil and commodity prices aren’t good in an inflationary environment (think about the one in the 1970s) even though such prices do benefit emerging countries and commodity exporters.
And what does this do to the fracking industry in the U.S.?
That outcome won’t be good at all, especially as some producers will go under at current prices and many more below $58 a barrel. Energy companies are responsible for 20% of the junk bond debt in the U.S.
That’s the whole purpose of Saudi Arabia not cutting production with the increasing excess oil capacity. It wants to kill off its fracking and less-efficient oil-producing rivals.
If oil does rally in the coming weeks or months and then turns around and starts to collapse again and breaks back below $63 — it’ll be downhill from there.
We should be watching out for a potential global stock crash.