Soybeans head for longest rally in 14 months on Chinese imports

By Jeff Wilson

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Soybean futures headed for the longest rally since March 2012 on signs of rising demand from China, the world’s largest buyer.

China bought 531,000 metric tons of U.S. soybeans in the week ended May 16 for delivery after Sept. 1, and an additional 115,000 tons of purchases overnight, government reports showed today. Sales last week for delivery before Sept. 1 rose nearly 12-fold to 183,480 tons, and inventories before this year’s harvest will drop to the lowest in nine years, U.S. Department of Agriculture data show. Exports of soybean meal since Oct. 1 are up 33% from the same period a year earlier.

Prices have jumped 8.8% in May, heading for the biggest monthly rally since July, when the worst U.S. drought since the 1930s eroded production and sent soybeans to a record $17.89 a bushel in September. While the USDA forecasts this year’s harvest will jump 12% to a record, farmers in the Midwest won’t collect most of those crops until October.

“China is buying, and that has put a strong bid into the futures market,” Jim Gerlach, the president of A/C Trading Co. in Fowler, Indiana, said in a telephone interview. “Meal exports are superb, and that’s a problem with U.S. soybean supplies falling.”

Soybean futures for July delivery jumped 1.9% to $15.2225 a bushel at 12:38 p.m. on the Chicago Board of Trade, after touching $15.4675, the highest since Nov. 2. Prices are up for a sixth straight session, the longest rally since March 2, 2012.

Soybean-meal futures for July delivery gained 1% to $445 for 2,000 pounds on the CBOT, after touching $451.40, the highest since Dec. 18.

China Imports

China’s soybean imports will start surging from this month and jump 17% in the season beginning Aug. 1 to 68 million tons, Hamburg-based researcher Oil World said May 21. U.S. reserves on Aug. 31 will shrink to 125 million bushels, the lowest since 2004, the USDA predicted on May 10. As a percentage of consumption, inventories will be the smallest since at least 1961.

Prices also rose on speculation that new rules from China to control capital inflows may end commodity-financing deals, forcing the country’s importers to buy futures to lock in purchases, Gerlach said. The National Business Daily reported yesterday some banks have stopped issuing letters of credit for copper importers after a government crackdown on hot-money flows.

“Talk that Chinese crushers are buying futures to lock in shipments because of the crackdown on financing is adding to the surge in prices today,” Gerlach said. “The only way to ration supply is to make it uneconomical to use the commodity. Clearly, we are not there yet.”

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Just Because You Can, Does Not Mean You Should.

By Charles Rotblut

I want to start with a short comment about Japan before moving onto the main subject of this week’s newsletter. As you probably heard, the Topix index plunged almost 7% just yesterday, the biggest drop since 2011’s earthquake and resulting tsunami. According to both Bespoke Investment Group and James Mackintosh of The Financial Times, this was also just the ninth time in the past 50 years that the Nikkei has fallen by more than 7% on a single day. (The Nikkei encompasses 225 stocks; the Topix tracks about 1,700.)

The drop was blamed, in part, on disappointing economic news from China and rising interest rates. Another contributing factor was the magnitude of this year’s rally in Japanese stocks. Even after today’s drop, the Topix is still up 2% this month and up 38% year-to-date, according to Bloomberg News. Volatility goes in both directions, and today was an example of downside volatility occurring after a large degree of upside volatility.
Prior to today’s Japanese market action, I had intended to start today’s commentary with the words, “Just because you can, doesn’t mean you should.” It is a phrase I find myself occasionally tweeting after hearing about a new investment product or strategy, such as a new specialty fund. There is a never-ending list of new products and revived investment ideas whose risks are capable of derailing your long-term plans.
Two of the most recent ones involve real estate and pension and settlement income streams.

CNNMoney published an article on Monday discussing how some investors are using their retirement savings to make investments in real estate. Not in real estate investment trusts (REITs), but directly in individual properties. My presumption is that the practice is not widespread, but there are enough people doing it to prompt an article on a popular website.

For a small portion of the population, direct investments in real estate can make sense. I have two friends who fit into this category. One spent years working for a major homebuilder before starting his own homebuilding business. The other not only had parents who owned rental properties, but also managed rental properties on his own before using his retirement savings to finance the purchase of an apartment complex.

Those of you without these types of backgrounds should tread carefully when investing in real estate. Buildings and land are comparatively illiquid relative to stocks, REITs and funds. Transaction costs are high. Buildings require upkeep. Mortgage payments, insurance, property taxes and any association fees require a constant outflow of cash, regardless if the property is rented or not. Add in the other potential headaches, such as bad tenants and late repair calls, and it becomes clear that considerations other than price appreciation must be factored into the decision process.

There is also a risk if retirement savings are used to fund the down payment on one’s home. If the house falls in value or fails to appreciate faster than the stock market over the long term, a sizeable opportunity cost occurs. If a 401(k) loan is taken, tax liabilities are created if the loan is not repaid by the time the person leaves their job.

The second is pension and settlement income streams, which the Securities and Exchange Commission (SEC) and FINRA recently published an alert about. Often pitched as pension loans, pension income programs, mirrored pensions, factored structured settlements or secondary-market annuities, these are investments intended to provide a stream of income based on someone else’s pension or lawsuit settlement.

The appeal of these investments is the 5.75% to 7.75% yield. The downsides are the high transaction costs, the difficulty of selling them, the risk you may not be paid and the risk that the agreements may not even be legal. In other words, these can be investments that are too good to be true.

Like real estate, buying and selling receivables and cash flow streams (a practice referred to as “factoring”) can be profitable if you know what you are doing, have the contacts and have enough capital to build a diversified portfolio. Factoring can be a challenging business for those who have experience doing it; it is very risky for an investor looking to buy a stream of income from a middleman.

There will always be investments that sound appealing. However, some investments are often pitched to benefit the seller or the company facilitating the transaction, not the investor. This is why just because you can buy an investment, does not mean you should. 

 

The Week Ahead

The U.S. financial markets will be closed Monday in observance of Memorial Day.

Just four S&P 500 member companies will report earnings next week: Tiffany (TIF) on Tuesday, Joy Global (JOY) on Thursday, and Costco Wholesale (COST) and Pall Corp. (PLL) on Friday.
The week’s first economic reports will be the March S&P Case-Shiller Housing Price Index and the Conference Board’s May consumer confidence survey. Both will be released on Tuesday. Thursday will feature the April pending home sales index and revised first-quarter GDP. The final May University of Michigan consumer sentiment survey, April personal income and spending and the May Chicago PMI will be published on Friday.
The Treasury Department will auction $35 billion of two-year notes on Tuesday, $35 billion of five-year notes on Wednesday and $29 billion of seven-year notes on Thursday.

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Can The U.S. Grow by Printing More Money?

By Michael Lombardi

A recession for the global economy is becoming an increasingly likely scenario.

The Chinese economy, the second-biggest in the world, witnessed a contraction in manufacturing in May. The HSBC Flash China Manufacturing Purchasing Managers’ Index (PMI) registered 49.6 for May, declining from 50.4 in April. (Source: Markit, May 23, 2013.) Any number below 50 represents contraction in the manufacturing sector.

The Chinese economy exports a significant amount of what it produces to the global economy. Contraction in Chinese manufacturing shows exports are falling—the global demand for goods is falling.

Similarly, Germany’s Flash Manufacturing PMI showed continuous contraction in the manufacturing sector. The index stood at 49.0 in May. (Source: Markit, May 23, 2013.) The German economy is important to observe, because it’s the largest economy in the eurozone and an economic slowdown in the nation can send the common currency region into another downward spiral, again affecting the global economy.

Looking at other key indicators, they are pointing to an economic slowdown ahead in the global economy. Consider the copper market. Demand for copper is suggesting activity in the global economy is sluggish, even deteriorating.

Copper prices are down more than 10% since the beginning of 2013, and stockpiles of the brown metal, tracked by the London Metals Exchange (LME), are up a staggering 95% this year! (Source: Bloomberg, May 23, 2013.)

Other industrial metal prices, such as aluminum, lead, nickel, and zinc, are in decline as well.

How can the U.S. economy possibly improve when the global economy is in trouble?

The U.S. is highly affected by any shift in demand in the global economy.

After the financial crisis of 2008, U.S.-based companies were able to show growth because of robust demand in the global economy. Some say the growth in the global economy pulled the U.S. out of recession in 2008.

Now, the economic indicators clearly point to diminishing global demand. Will U.S.-based multinational companies be able to show profit growth under the scenario of global manufacturing contraction? Of course not! (Someone tell stock market investors!)

During the first-quarter earnings reporting season, some of the biggest big-cap companies in the key American stock indices displayed concerns regarding the crisis in the eurozone. I expect more companies to start blaming the economic slowdown in the global economy as they report lower second-quarter corporate earnings.

Michael’s Personal Notes:

As I have been writing in these pages, economic growth in the U.S. economy won’t happen by printing more paper money—it’s a short-term fix that creates more long-term problems.

According to data compiled by Bloomberg, 2,267 non-financial constituents of the Russell 3000 index saw their cash holdings increase by 13% to $1.73 trillion in the first quarter of 2013 compared to the same period a year earlier. (Source: Bloomberg, May 23, 2013.)

As the cash hoard continues, business spending declined 21% in the first quarter compared to the last quarter of 2012. This was the biggest decline since the financial crisis of 2008.

To top this off, business executives in the U.S. economy are worried about troubles in the global economy, and they don’t have a very optimistic view on conditions here at home. A CEO Confidence Survey conducted by the Conference Board suggests only 29% of executives believe conditions in their industries have improved in the first quarter; going forward, only 32% expect the U.S. economy to improve in the next six months. (Source: Conference Board, April 25, 2013.)

Looking at all of this, how can you not question the effectiveness of quantitative easing in the U.S. economy? The problem at hand is businesses shying away from spending in the U.S. economy and hoarding cash. To my standards, quantitative easing is failing at making businesses more confident about spending as it was promised.

Dear reader, for economic growth to take place in the U.S. economy, businesses must be willing to spend and make investments; we are seeing the opposite of that. This isn’t rocket science; once businesses start to spend and make investments, we will see recovery in the jobs market and economic growth will eventually follow.

The U.S. economy is at a vulnerable stage. I am paying extra attention to business spending because troubles from outside the U.S. economy are brewing quickly, and as a result, multinational businesses may make further cutbacks on their spending.

Where the Market Stands; Where It’s Headed:

We are putting the finishing touches on “A Dire Warning for Stock Market Investors,” a forecast we will present in video format. Please see your e-mail inbox tomorrow for this presentation. It’s important you watch it to see where the stock market is really headed next.

What He Said: 

“As for the stock market, it continues along its merry way oblivious to what is happening to homebuyers’ wealth. (Since 2005 I have been writing about how the real estate bust would be bigger than the boom.) In 1927, the real estate market crashed and the stock market, even back then, carried along its merry way for two more years until it eventually crashed. History has a way of repeating itself.”  ~ Michael Lombardi in Profit Confidential, November 21, 2007.

This was a dire prediction that came true.

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The Headline Data that Financial Media Ignored on Wednesday

by J.W. Jones

Wednesday was a wild trading session where we saw the largest intraday selloff in the S&P 500 E-Mini futures that we have seen in some time. Intraday price action was driven largely by statements made by Chairman Bernanke and the release of the Federal Reserve Meeting Minutes which saw some monster intraday moves and a large spike in the Volatility Index (VIX).

While the world is focused on when the Federal Reserve is going to taper their Quantitative Easing program and the impact those actions will have on financial markets, I wanted to look at another divergence in the economic data which is supported by market action.

Instead of trying to determine how or when the Federal Reserve will taper or end their monetary experiment, I wanted to juxtapose statements that were made today with the actual facts. Readers can draw their own conclusions.

Recently, we have been told that the housing market is in the early stages of recovery. Unfortunately due to low interest rates housing has turned back into a speculative market. Consequently, a lot of so-called fast money is flowing into housing which in many cases is either being purchased for rentals or by foreign investors as a speculative investment.

At present the housing market is not being driven by capital formation at the household level and data indicates that construction jobs are under pressure and affordability is reversing. The chart below illustrates what has recently transpired in the 10 Year Treasury Yield:

As can be seen above, the 10 Year Treasury yield has risen considerably since the beginning of the month of May. Normally when interest rates are rising and Federal Reserve policy is indicating that a form of tightening seems likely we typically see a rush of mortgage applications and home starts as borrowers try to lock in lower interest rates. Furthermore, the spring and early summer months are generally considered a very favorable time to sell existing homes in the United States.

In light of all of the above mentioned facts paired with our Federal Reserve Chairman stating that housing is starting to recover, readers would expect that housing starts and mortgage applications would be jumping higher.

Unfortunately the mortgage application data came out on a day when the Federal Reserve was controlling the headlines. The mortgage application data indicated the largest 2-week rate of decline in mortgage applications since the housing bubble popped.

Furthermore, this is supposed to be a strong seasonal time for real estate and interest rates are rising as shown above. If readers look at recent price action in the Spiders Homebuilders ETF (XHB) or Home Depot (HD) it would appear that all is well in the land of housing and Chairman Bernanke and the Federal Reserve are spot on with their bullish analysis.

Until the past few trading sessions, the homebuilders have been in an obvious bullish run to the upside. The rally that transpired since the late February 2013 lows tacked on close to 20% gains in XHB. However, as noted above, the past few trading sessions’ price action appears to have stagnated and we saw new recent lows on Wednesday.

Home Depot (HD) is another stock that relies heavily on home construction and improvement and would likely benefit from both new home building and existing home purchases which typically require immediate customization or improvements. The recent price action in Home Depot is shown below.

Home Depot has had an impressive rally since the beginning of 2013. HD has tacked on over 20 points on its share price representing a near 30% move higher year to date. However, exuberance on Tuesday after earnings were released saw a spike Wednesday morning which was promptly reversed intraday.

Based on the recent price action in both the homebuilders ETF (XHB) and Home Depot (HD) readers would tend to agree with Chairman Bernanke that housing was recovering and that the recent mortgage application decline was merely “transitory.”

However, there is one eye-opening concern that does not support Chairman Bernanke’s position about a housing recovery and unfortunately points to less demand in the immediate future. While many investors do not track lumber prices, the chart below demonstrates the sheer bear market that has befallen lumber futures prices.

As can be seen above, random length lumber futures have gotten crushed to the downside over the past two months. In early March, lumber futures were trading up around the 410 price point. At the close on Wednesday, random length lumber futures closed at 305.20, a more than 25% drop in price in roughly 2 months.

How is housing rebounding with lumber prices falling? While Home Depot sells many products, most major remodeling projects and even smaller upgrades require the purchase of lumber. Have logging companies discovered an untapped lumber resource?

I will let readers decide whether to believe the price of lumber and mortgage application data or a Federal Reserve Chairman that declared on January 10, 2008 that “The Federal Reserve is not currently forecasting a recession.”

For those paying attention, the macroeconomic data is crumbling in the United States and Europe. The printing press and monstrous liquidity can only fuel markets for so long. Can Chairman Bernanke and the Federal Reserve print Cap-EX spending increases and rising profitability? I think we all know the answer. In the end, when the Federal Reserve is printing $85 billion dollars per month to buy U.S. government debt perhaps fundamentals are largely irrelevant.

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Apocalypse, not yet

by The Economist

Bond yields are very low, but Japan’s example shows they may stay low

IS THERE a bond bubble and is it going to burst soon? The Spectator, a British political weekly, ran a cover story citing the existence of a bubble back in September 2011. Yields are even lower now than they were then.

Calling the top of an asset bubble is extremely hard, as sceptics of the dotcom boom in the late 1990s will recall. History suggests that buying government bonds at yields of 2% or less is a losing proposition in real terms; those who bought American Treasury bonds on a yield of 2% in 1945, for example, did not see a gain in their purchasing power until 1989.

But there is one important exception to the rule. Japanese ten-year bond yields fell below 2% in 1998 and have stayed below that level almost ever since. Thanks to deflation, investors have still managed to earn positive real returns. Betting against the Japanese bond market has been a losing game.

In a sluggish economy, it is quite plausible that rates will stay low. Paul Krugman, an American economist, points out that bond yields are essentially a forecast of future short-term rates. Since a return of these rates to pre-crisis levels (4-5%) looks highly unlikely in the near future, there can hardly be a bond bubble.

Others see the recent rise in bond yields as a sign that the tide is turning, particularly in Japan. But as the chart shows, yields have only pushed up from remarkably low levels. In Germany and Japan yields are still lower than they were at the start of 2012. Abenomics, and the 2% inflation target, must have encouraged some Japanese investors to sell bonds and switch to equities (a sell-off on May 23rd came only after a long rally); foreigners may also be less keen to buy Japanese bonds while the yen is sliding. At any rate, the vast scale of the Bank of Japan’s quantitative-easing programme means that the authorities have plenty of firepower to drive yields back down again, if they feel these have risen too far.

The apocalyptic view of government-bond markets is that a combination of high fiscal deficits and central-bank money-printing will eventually cause a rapid rise in inflation. This may prove to be true in the long run, but there is little sign of it yet. Inflation rates are generally falling and the same is true for inflation expectations, as measured by the gap between the yields on conventional and inflation-linked bonds. In fact, Japan’s economic policy might act as a deflationary force in the rest of the world, since the lower yen will allow Japanese exporters to undercut their competitors. Albert Edwards, a strategist at Société Générale who has been pushing his “ice age” thesis of falling bond yields and lower equity valuations since the late 1990s, argues: “We are now only one short recession away from Japanese-style outright deflation.”

The big fall in government-bond yields has had a similar impact on corporate borrowing costs. The polite term for junk bonds, the riskiest part of the market, used to be “high-yield”, but that is now a misnomer. American firms without an investment-grade rating borrow at less than 5%—a record low. As Jeremy Stein of the Federal Reserve noted in February, speculative elements have returned to the markets, including “covenant-lite” loans and payment-in-kind debt (where interest is paid not as cash but as more debt). Bond issuance has boomed, with $1.2 trillion-worth of bonds sold in the first four months of the year, according to Standard & Poor’s, a ratings agency.

Still, a recent research paper by Moody’s, a rival to S&P, argues that all this is not necessarily evidence of a bubble. First, the spread, or excess interest rate, paid by companies compared with governments is not as low as it was in 2006-07, when most people think a credit bubble emerged. Second, companies have been issuing bonds as a way of refinancing previous debts, rather than gearing up their balance-sheets. Third, corporate default rates are low by historic standards and, particularly in America, profits are holding up well.

Nevertheless, corporate bonds are inherently more vulnerable than government debt. If the world does shiver in Mr Edwards’s ice age, government bonds will keep their appeal but defaults on corporate bonds will rise. And if the inflationary school is right, corporate bond yields will soar (and prices plummet) along with government bonds.

So bond investors might face apocalypse, but predicting timing is tricky. A surge in inflation, a sudden change in central-bank policy and (for corporate debt) a relapse into deep recession could prove ruinous. But probably not this year.

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Platinum and Palladium: A Fundamental Shift

By: Jeff_Clark

Platinum is a precious metal, as is palladium, though to a lesser degree. However, like silver, both are also industrial metals. Unlike silver, it's their industrial use that is the primary price driver for both platinum and palladium – and that use is undergoing a fundamental shift.

The largest source of demand for platinum and palladium is the automotive industry, for use in autocatalysts. In turn, the fortunes of the auto industry are sensitive to the health of the world's major economies. We've been bearish on platinum-group metals for years, primarily because we weren't convinced a healthy – much less roaring – world economy could be sustained when so many governments continue spending beyond their means.

We reconsidered the market last year, when strikes in South Africa – home to 75% of global platinum production and 95% of known reserves – threatened supplies. But as we wrote last December, the strikes ended without great impact on long-term supply.

Since then, however, the fundamentals of this market have changed. Others may disagree with our economic outlook, which is still bearish, but it's due to supply issues – not demand – that our interest is now drawn to these metals, and particularly to palladium.

Here's a look at global supply against auto-industry demand for both metals.

Approximately 55% of platinum and the bulk of palladium supply was used in catalytic systems last year. The shrinking supply that's under way with both metals is obvious, and palladium is approaching a supply/demand crunch.

Here's what's going on…

Platinum

The fall in platinum supply has been so great that it moved from a surplus in 2011 to a deficit in 2012, with Johnson Matthey estimating that deficit to hit 400,000 ounces, the highest level since 2003.

Why the shift?

• Labor strife and power outages. The mining industry in South Africa is, frankly, a mess. Labor strikes continue to haunt the platinum mining companies. The largest mining union in South Africa, AMCU, recently refused to sign a collective bargaining agreement on worker compensation, and CNBC is predicting a massive strike. Amplats, the world's largest platinum producer, is threatening to cut 14,000 jobs and mothball two operating mines due to various issues. Meanwhile, power outages, a longstanding problem, continue unresolved; they have already forced the closure of some mines and are widely expected to cause further cuts in production. As a result, supply from mining is expected to decline another 10% this year.

• Recycling. This important source of supply is falling in reaction to lower metals prices. It is estimated that recycling fell by 11% in 2012.

• Emission systems. Demand for platinum in autocatalysts dropped by 1% in 2012, mostly due to lower vehicle production in Europe and lower market share of diesel engines. However, emission-system demand from Japan and India is expected to increase, and diesel-emission controls recently introduced in Beijing will also support industrial demand for both metals. Auto sales in China rose a whopping 19.5% in the first two months of the year and are 6.5% higher in the US than a year ago.

• Jewelry. Worldwide demand for platinum jewelry rose last year, with strong demand coming from China and growth in India, and is mainly the consequence of lower prices. Jewelry accounts for 30% of total platinum demand.

• Investment. Although it represents just 6% of total demand for the metal, investor demand nonetheless grew 6.5% last year, adding to pressure on supplies.

Given these factors – primarily the first one – a supply deficit stretching into 2014 seems almost certain. Until South Africa can resolve its labor and power issues, pressure on platinum supply will remain, producing a favorable environment for rising prices.

Palladium

Palladium, platinum's "little brother," also faces a market imbalance. In 2012, the deficit totaled 915,000 ounces, the highest level since 2001.

• Supply. Russia is the second-largest producer of palladium, and some analysts report that rumors of its stockpile being close to depletion are true. Recycling is also falling, and production disruptions in South Africa – the largest producer of palladium – are the same as outlined for platinum. Overall supply of the metal is falling.

• Demand. Autocatalytic demand rose by 7% in 2012, as palladium can be easily substituted for platinum in emission-control systems for gas-powered motors (but not diesel-powered ones), such as are favored in China and India. In fact, several experts we consulted were more bullish on palladium than platinum due to this "substitution factor" – and China just mandated catalytic systems for all cars in the country.

Palladium investment demand was positive last year, though palladium jewelry has yet to gain traction in China, one of the world's biggest jewelry markets. Total jewelry demand for palladium was 11% lower in 2012. However, we expect a greater shift to palladium in the expanding Asian automotive market, which in turn will boost palladium prices.

The fundamental drivers of the palladium market are similar to those for platinum, which makes the palladium market an equally attractive investment.

If this all weren't bad enough, most companies' production costs are now above current platinum and palladium prices. This can only be solved one way: higher metals prices.

Bottom Line

The supply disruptions in South Africa combined with secondary factors have led to deficits in both metals that won't be erased overnight. Such imbalances, together with mainstream expectations of global economic growth, create a favorable environment for PGM price appreciation.

This much seems like a safe bet. There is, however, a great deal of speculative upside in the not-inconceivable case of South Africa going off the rails in a major way. Massive – not marginal – supply disruptions in the world's main source of both metals would send their prices through the roof. You get this speculative potential "for free" when you bet on the more conservative projections that call for rising prices regardless.

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