- 1997: Volume 6, No. 3 What's Hot and What's Not

The adage, "the more things change, the more they stay the same" applied to commodity markets during the past month. For the most part, markets that had been hot stayed hot-notably coffee, stocks, soybeans, currencies and copper. Only the energy markets cooled down. Markets that might be on the verge of becoming hot are gold, silver and cocoa.

What's Hot

Coffee—The bullish fundamentals remain the same but coffee prices continued to explode, still searching for the elusive price level that rations tight supplies. Of course, that's purely subjective and the only thing traders can be sure of is that prices will overshoot to the upside. The combination of low New York deliverable coffee stocks, reduced crop estimates for Columbia and Brazil, and the approaching Brazilian frost season (which begins in June) kept sellers on the sidelines. giving the funds and other specs free reign to push prices higher. That's likely to continue until signs of slower demand surface, which might not be too far away since consumers are getting "sticker shock" and Jay Leno is starting to make jokes about the high price of coffee.

Stock Market—If you just came back from two months on a remote tropical island and saw the Dow at new highs, you'd think, "situation normal." However, in the interim, stock prices suffered through a sharp down correction then came roaring back in a rally so explosive even the bulls were amazed. Basically, the public had been waiting for a "normal" 10 percent correction and began pouring even more money into stocks at the first sign of a bottom. There are still plenty of signs of investment hubris, e.g. comments on the newswire that, "investors must buy or risk missing the boat," or that "the economic news doesn't matter, stocks will go up no matter what." If that doesn't smack of "irrational exuberance," we don't know what does. Aside from the mania to buy stocks, the main danger to the bull market comes from the potential for another Fed rate hike. The only other caution is that the ballistic rise over the past several weeks has the earmark of an exhaustion or blowoff type rally so bulls should be on guard.

Soybeans—Even though massive soybean planting intentions of 68.8 million acres equates to a record 2,600 million bushel crop according the the USDA's latest supply/demand report, the overall fundamental situation hasn't changed much. Despite record South American production (which was pared by a late season drought), torrid world demand for soybeans will keep supplies tight through the remainder of the season, meaning nothing can go wrong with the U.S. crop. Prices might pull back over the near term on signs that demand is slowing (which has to happen or the U.S. might literally run out of soybeans) but should remain underpinned by crop uncertainty. In recent years, traders have come to view the July fourth holiday as the "make or break" point for the crop as far as weather goes, but for soybeans, the critical period is flowering and pod filling in August. Should any crop threat develop, real or perceived, this market could rally sharply.

Wheat—Wheat prices jumped sharply higher due to possible freeze damage in the U.S. winter wheat belt and flooding in the U.S. spring wheat areas but then came all the way back down on reports that freeze losses weren't as severe as originally thought and that much spring wheat acreage won't be lost and the crop should get planted on time. However, since supplies are forecast by the USDA to remain relatively tight through next season (a low 465 million bushel carryover is expected to rise only to 557 at the end of 1997-98), it wouldn't take much in the way of crop problems anywhere in the world to trigger another explosive up move.

Currencies—The dollar remained strong until last week when comments from Japanese officials that Japan's economy was stronger than generally thought and that Japanese interest rates might be raised triggering a dollar collapse versus the yen. A Japanese official even went so far as to say the dollar/yen might fall from its current level of 117 to 103 by year end. Of course, the overall fundamentals remain arguably bullish toward the dollar; the U.S. economy should outperform those of Japan and Germany, and interest rate differentials should remain in favor of the dollar even if Japan raises rates and the U.S. stands pat. In fact, the G-3 nations (Germany, Japan and the U.S.) really just want a stable dollar and have already been doing some jawboning to stem the dollar's decline. However, now that the ball is rolling in the other direction, it might be difficult to stop, particularly if liquidation of the massive long dollar/short yen positions established over the past two years begins to take hold. Some Japanese officials expressed "shock" at the speed and extent of the yen rally (what planet did they come from?), but that's what happens when you convince everyone that the entire outlook has changed. There's probably more upside in the yen which should drag the D-mark and Swiss franc along for the ride.

Copper—This market resumed its bull move, still supported by tight near-term supplies and good demand, notably from China. As mentioned before, that's somewhat mitigated by the long-term outlook for surplus mine production and rising supplies later this year. But the near-term fundamentals usually win out and that's the case with copper. In addition, the chart is solidly back to the bull side, favoring a rally to major resistance around 120.

Markets That Might Get Hot

Gold and Silver—There's still no sign of inflation (which really doesn't mean much to silver anyway), but both markets flashed bullish technical signals over the past two weeks implying that some significant bottoms have been established. Basis June gold, a major double-bottom around 340 would be confirmed by a close above 370, then the first target would be psychological resistance around 400. In silver, the bottom pattern isn't as impressive, but prices have grabbed hold at a level where major turnarounds often occur-450 to 470-so it's best to expect higher prices over the near-term. And a close above 500 would turn the main trend back up.

Lean Hogs—The outbreak of foot-and-mouth disease in Taiwan and suspension of Taiwan pork exports to Japan (which could last for two years) triggered an explosive rally in lean hogs as the U.S. should garner the lion's share of Japanese business. Beyond this, however, the fundamental arguments are a bit murky. The most recent pig crop report showed that production is expanding, but at a sluggish pace. In fact, prior to the Taiwan news, producers didn't plan to ramp up breeding until spring-early summer. While that implied some supply tightness, sluggish domestic demand has kept cash market prices relatively low. In addition, a slower than expected hog slaughter pace indicates that either hog supplies are backing up on farms, which is obviously bearish, or the numbers just aren't there, which is obviously bullish. We're inclined to believe the latter and look for much higher prices over the long-term, probably sparked by the lifting of Japanese tariffs on U.S. pork, possibly in early July.

Cocoa—Cocoa has gotten interesting, rallying through resistance and leaving a potential bullish flag formation on the weekly chart which projects much higher prices. The fundamental story, unfortunately, doesn't match that scenario. Another large Ivory Coast crop is expected and cocoa production prospects elsewhere look good. Total output next season will fall below consumption but there are still big stockpiles left from previous years of overproduction that have to be worked off before the supply outlook can truly be considered tight. However, due to the sudden change in the chart, we'd look for higher prices.