Commodity Stocks May Rebound, But Not For The Reason You Think
The Morgan Stanley Commodity Related Equity Index dropped 3.7 percent in the six months ended June, compared with a gain of 13.8 percent for the benchmark S&P 500 Index.
And that wasn’t just a recent phenomenon: As shown in the chart below, commodity stocks have trailed the S&P 500 for over two years — and by a whopping 36.5 percent.
But there is some potential good news for natural-resources stock investors: The long down trend has leveled out, and commodity stocks may be poised to outperform once again, though perhaps not for the reason that most investors suspect.
Since commodities, and resource stocks, began dramatically underperforming two years ago, investors have been concerned about a stubbornly slow-growth world. The IMF, which closely tracks global economic trends in its World Economic Outlook report, has consistently cut worldwide growth forecasts, including in its latest bulletin here.
Fears of a global double-dip recession have been a persistent source of market stress in recent years, and central banks have responded with massive money-printing in response to the deflationary threat.
The chart below displays the global downshift in growth. It shows the Purchasing Managers Index (PMI) for Europe (top panel) and China (bottom), a widely followed indicator of industrial strength.
You can clearly see that the down trend in the PMI since 2011 reflects the underperformance in commodity stocks. Although data out yesterday shows a slight pick-up in Europe, the region is still mired in a recession, and there are growing concerns about a “hard landing” for China’s economy, which has already slowed from growth rates of 10 percent-plus just a few years ago to 7 percent today.
With these stiff economic headwinds on the horizon, why should commodity stocks outperform again? Perhaps because gains in commodity prices may have less to do with swings in global growth and more to do with the trajectory of the U.S. dollar.
Let’s test this theory using China as an example.