Insights

Wall Street Wrap – The Fed Stands Still, Gold Trades $1,099

As widely expected, The Federal Reserve Open Market Committee maintained its target for the federal funds interest rate at 0 to 0.25% today stating that it “continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.”  This caused the dollar, which had been selling off before the announcement, to drop even farther with the PowerShares DB US Dollar Bullish Fund (NYSE: UUP) dropping 0.88% on the day (-$0.20, $22.48) and propelling New York Spot Gold to trade as high as $1,099.  This maintenance of low interest rates caused a rally in the home builders with Pulte Homes Inc. (NYSE: PHM) +3.46%, Lennar Corp. (NYSE: LEN) +3.43% and D. R. Horton Inc. (NYSE: DHI) +3.12%, all gaining on continued low mortgage rates.

Click here to read the full FOMC Statement

The Dow Jones Industrial Average, which had been up all day and traded its highest level a half hour after the announcement at 9928, got sold off into the close dropping 113 points within the last hour of trading.  The Dow 30 closed up 30.23 points at 9,802.14 (+0.30%) with the S&P holding onto gain of 1.09 points (+0.10%, 1,046.50).  The Nasdaq 100 also barely managed to finish positive 1.47 points (+0.08%, 1,680.67).

With the low interest rates and the dollar getting hit left and right, the commodity space has been red hot.  Looking at various commodities and the dollar exchange traded fund, the vehicles the common investor can use to most easily invest in, we find the following returns for 2009 thus far;

• Market Vectors Coal ETF (NYSE: KOL) +114.5%
• iPath DJ AIG Copper ETN (NYSE: JJC) + 109.6%
• United States Gasoline (NYSE: UGA) +88.8%
• Market Vectors Steel ETF (NYSE: SLX) +79.6%
• SPDR Gold ETF (NYSE: GLD) + 23.8%
• United States Oil Fund (NYSE: USO) +22.8%
• Dow Jones Industrial Average +11.7%
• PowerShares DB MS Agriculture ETF (NYSE: DBA) +0.2%
• PowerShares DB USD Dollar ETF (NYSE: UUP) -8.83%
• Unites States Natural Gas (NYSE: UNG) -57.8%

The Dow Jones Industrial Average is included here as lately it has traded much like a commodity.  With the current U.S. interest rates so low, the dollar is being used to fund the carry trade and is shorted to provide funds to invest in other ‘risky’ assets (for more on this see my Wraps from 11/1, 10/31, 10/30).  This use of the dollar in the carry trade has established an inverse relationship between the dollar and the stock market, much like commodities.

Looking at these returns we can see that the good news is food is not seeing much inflation and if you heat your home with natural gas this may be a cheap winter.  The bad news is gasoline has almost doubled so you will have to stay home and eat in.

Much speculation has been running around the financial community about whether or not a commodity bubble is forming.  Just looking at absolute returns does not give enough information to define a bubble, as these different commodities are influenced not only by a diving dollar, but by things such as economic activity (coal, copper, steel, oil), inflation expectations and currency diversification needs (gold), consumer income and purchasing patterns (gasoline, food) and the simple supply of the commodity (natural gas).

I do not think we are into a commodity bubble as there have been a series of positive economic numbers out of China (remembering commodities are a global situation) which directly influences the demand for, and price of oil, copper, coal and steel.  The United States economy has also improved as evidenced by the 3.5% GDP report from last week.  Judging from the Fed’s statement today, interest rates will be kept very low for awhile in order to juice job creation and this will keep the dollar weak and the commodity run up will continue.  Also, the overall market; commodities, stocks and bonds, all dropped for a ways before the start of 2009 so rising from a lower starting point makes the run up percentage numbers look larger.  With the specter of a trillion dollar health care reform and cap and trade costs looming in the United States political future, along with the current budget deficit, I do not see the dollar strengthening appreciably anytime soon.  There longer term outlook for commodities remains positive.

Nymex crude rose 80 cents today (+1.01%, $80.18, 4:50 p.m.) regaining the $80 level.  Gold has been the market darling lately trading an all time high of $1,099 an ounce today and was last seen at $1,091.80 (+0.69%, 5:00 p.m.).  Yesterday’s move by the Reserve Bank of India of buying 200 tonnes of gold from the IMF shows the argument why gold may be nowhere near a top.  The inflation/deflation arguments about gold will mean nothing if the offshore assets denominated in dollars start to diversify into gold.  Of all the major currencies of the world gold has the smallest market by far.  Were Russia, China, Japan, India and the Middle East dollars to all diversify to just 5% of foreign reserves into gold, the price could top $2,000 easily.