- 2000: Volume 9, No. 2 What's Hot and What's Not

The bond market turned hot, rallying sharply on supply concerns sparked by a cutback in Treasury auctions. The stock market had something for everyone-the Dow fell sharply, but the NASDAQ exploded to a new high. Other big movers included cotton, the yen, petroleum markets and precious metals.

What's Hot

T-bonds—Treasury bonds rallied sharply in late January-early February on news of a cutback in the government bond auction schedule (twice a year instead of quarterly) and the Treasury's intention to buy back some outstanding bond issues. Much of the buying was panic short covering by hedge funds caught the wrong way in yield curve positions (short bonds-long short-term debt), and it's tough to envision investors chasing bonds higher since inflation is likely to uptick due to sharply higher energy costs, which make up about two-thirds of CPI inflation. However, concerns of tight supplies appear to be in control, and the chart is bullish, so further gains are likely.

Stock Market—Over the past month the Dow has headed south and the NASDAQ has headed north as investors decided blue chips would be hurt by rising interest rates while high-tech issues would be immune to the laws of economics. There's no sense arguing whether internet stocks are overdone to the up side since the PE ratios of many high-tech companies already defy reality. Some economist see a slower economy later this year, but that could easily be rationalized as a good thing, keeping inflation down and preventing further Fed rate hikes. Basically, despite the pullback in the Dow and S&P 500, there's no concrete sign the broad market has topped out. And the recent down correction is probably just what the doctor ordered, clearing the air and setting the stage for another rally.

Cotton—In what has become a common occurrence in commodity markets, the managed funds reversed position in cotton, turning around from the short side to the long side during a two week period early this year, triggering an explosive rally. Then they kept buying, taking prices up more than 20 percent. In this case there were some bullish fundamentals to go along with the technically inspired buying binge, mainly forecasts for lower acreage and strong demand and declines in global and U.S. cotton stocks over the next two seasons. On the other side of the coin, the bearish estimates have been mitigated somewhat by higher prices which will no doubt result in higher acreage. In addition, even though demand is expected to remain strong, weather conditions are forecast to improve in dry areas of the southwestern U.S. and Texas. Because of that and the huge speculative overhang (the funds now have a huge net long position), we're leery of the upside of this market, barring a return of dry weather.

Japanese Yen—The Japanese Yen has fallen apart over the past two months as investors apparently decided that Japan wasn't the best to invest in after all. However, "hot money" hedge fund liquidation was a prominent feature indicating the move had less to do with the fundamentals than the never-ending movement of capital to the next potentially hot market, which appears to the U.S. dollar, of all currencies (imagine that... the U.S. is a good place to invest!). There's talk that Japan's struggling economy will do better later this year, and the Nikkei Dow has broken out to a 2 1/2 year high, but there are still better reasons to be invested in the dollar favoring further weakness in the yen.

Petroleum Complex—OPEC said it would raise crude production at the March 27 OPEC meeting, but crude prices continued to hold up, supported by concern that an increase in output will be too little, too late to alleviate tight supplies. In fact, the anticipated 1.2 million barrel per day increase in output may not even boost global stocks to "normal" levels and won't occur in time to increase gasoline stocks by enough to prevent prices from getting above the per gallon level during the peak summer demand season. As is often the case, the funds are a wild card, holding a big net long position, but the petroleum markets are likely to stay firm unless OPEC really opens the spigot, which is very unlikely.

Gold and Silver—Gold jumped sharply higher in early February then gave up all of the gain by month end, indicating a major bull phase isn't in the cards right now. On the other side of the coin, it's best to assume a major bottom was established back in September. However, since the fundamental story isn't very exciting (demand remains disappointing and inflation isn't much of a concern), prices are likely to continue to struggle. Silver mirrored action in gold, closing in on major support around 500. Prices are likely to stabilize there, but like gold, there's nothing in the fundamentals capable of sponsoring a major up move.

What Might Get Hot

Soybeans—Hope springs eternal for a drought in the Midwest, at least among speculators, who have been steadfastly bullish toward soybeans even though weather conditions in South America improved considerably, resulting in a big jump in production potential. In addition, La Nina appears to be loosing its grip on the Midwest where rain has arrived. On top of that, U.S. soybean acreage is expected to increase sharply. However, none of that has deterred the spec contingent (including the funds) who continue to support this market. We suppose it can be argued that prices are historically low so this is a good place to get on board in anticipation of the inevitable weather scares that occur every growing season. But the bulls will need plenty of patience since it might be a long time before some significant bullish crop weather develops, e.g., planting in the main corn belt is still more than two months away, leaving plenty of time for more rain to arrive.

Corn—At least the corn market has the outlook for lower acreage going for it, which makes weather problems more significant. On the other side of the coin, the USDA projected that supplies will remain adequate even though stronger demand is expected this season. However, like soybeans, corn prices are historically cheap, so we suppose this is as good a spot as any to get on board in hopes of a weather scare, which always seems to develop.

Wheat—The wheat market rallied early this year due to drought in parts of the hard red winter wheat belt (Texas and portions of Oklahoma and Kansas), then fell sharply over the past two weeks when rain finally arrived. However, like corn and soybeans, this market is cheap on an historical basis. In addition, HRW acreage is down, the supply/demand has tightened a bit, and it's too dry in spring wheat areas. More importantly, much above normal temperatures in the HRW belt caused the crop to break dormancy much earlier than normal, leaving it vulnerable to damage from a freeze. Because of that, prices are likely to hold above the recent low. And even though global supplies are forecast to remain ample, there's the potential for a strong, but probably brief, rally if a major freeze occurs during the reproductive stage late this month or early April.