WEEKLY COMMENTARY: 7-18-2008
In a free market, the best cure for high prices is high prices.
What happens when there are high prices in a market that isn't free?
US oil production went from near 10 million barrels per day in 1970 to 5 million barrels per day in 2007. Obviously higher prices have no impact on US PRODUCTION because the US is NOT a free market.
There are 36 million acres of land leased by the USDA farm program to control excess crop production. Now that prices are high and inventory is needed the land in the CRP is NOT available to meet the current needs because the USDA will NOT release the crop land back into production. (The birds want to keep it.)
So, does that mean higher prices DO NOT act as a cure for high prices.
But, some argue that we are better off with less pollution and more birds and caribou. Is that true?
If we don't produce more oil, won't other countries rip into their exploration and be far worse on the environment of the world in their production? Are the caribou in Siberia treated the way the caribou in Alaska would be treated if we increased our drilling? Aren't we forcing horrible treatment of the caribou in other parts of the world?
If Cuba drills for oil and pollutes the Gulf of Mexico, is that better than our drilling in an environmentally controlled way? Aren't we causing increased pollution of the Gulf of Mexico by letting others outside our control do what we would do more responsibly?
South America is cutting down the rain forest for farmland. Is that worth our planting grass in our fields for the birds to nest along our creeks?
See, free markets SOMEWHERE will find incentive in higher prices.
AND THEN HIGHER PRICES WILL CURE HIGH PRICES.
If $50 oil and $4 corn "should" have brought on more production to bring prices back down to $20 oil and $2 corn, will $140 oil and $7 corn only bring on a little production from other places in the world, or, will there be MASSIVE new production brought on stream in other parts of the world?
These higher prices are incentives for massive new finds of oil, for massive clearing of land for farming. Once new oil fields are found, like in Brazil and in India - both have gone from oil importers to oil exporters, will they turn off the pipeline if prices come down? Once land is cleared will they stop growing crops if prices come back down?
I believe these high prices will result in MASSIVE GLUT of new world production that will drive prices all the way back down to oil under $20 and corn under $2, and the environmental damage some will cause will be catastrophic relative to the minor disruption we might have caused by allowing responsible production in the US.
Not only will our narrowly defined domestic environmental concerns result in far greater global environmental damage, but the export of our capital to pay others for production we could have done ourselves has weakened our country and our future by increasing our debt and flooding the world with our currency.
I explained the above because this is the trading environment we live in. With 20 20 hindsight we should have known how this commodity bubble would ignite. The domestic drilling restrictions and the acres set aside set up the bubble over many years. But high prices WILL cure higher prices by increased world production. Bull markets can take many years of basing and foreplay until they eventually light on fire. But bear markets are BORN IN THE FIRE OF THE BULL EXPLOSION. Today we only hear about waiting for demand destruction to bring a pause in the bull, when we should also be focusing on the race to increase world supply and the commodity bear market that will result. The world is not merely bringing supply and demand in balance. This has been the greatest commodity bull market in history and in response the world is bringing the greatest increase in supply in history that will eventually overwhelm demand.
Remember the Beverly Hillbillies that found oil by shooting a bullet into the ground. Well, today, in the US you can't shoot at the ground and bubbling oil would cost you pollution fines. But in the rest of the world they are strip mining and shooting eagles and their chicks out of the trees to bring new supply to the markets.
Let's not talk about right or wrong! Let's not talk about who wins or who loses. Let's not talk about why or why not. Let's just talk about the markets.
So how are we going to know that the commodity bull has peaked and the new bear is on the way?
For the last few months I have recommended to be on the sidelines, out of the markets except for a few cheap long term puts. (see recommendations in the column at the right.) As of the July 11 close, however, I recommended going SHORT the commodity indexes in my Commodity Index Timing .com web site and long the stock market in my Stock Index Timing .com web site.
