Canada Markets

Will Similarities to the Housing Crisis and Dot-Com Bubble Support Commodities?

Mitch Miller
By  Mitch Miller , DTN Contributing Canadian Grains Analyst
Excessively overbought stocks compared to the commodities that are used to help generate that wealth are on display here. With the S&P index 64 times the Bloomberg Commodity Index compared to 5.35 in 2008 (amid similar concerns), are we about to see a flow of funds from equity to commodity markets? (DTN ProphetX chart)

Amid the data void that markets are experiencing thanks to the government shutdown, it seems like an ideal time to update readers on the big picture that money managers are dealing with. And spoiler alert, it may very well support commodity markets as it did in early 2022.

There are a growing number of reasons to be concerned about the similarities in financial market conditions now that were present in previous market breakdowns. Specifically, the slack lending standards that led to the housing market collapse in 2007-08, which almost brought down the banking industry, along with a number of individual firms. Then there are the concerning similarities between the dot-com bubble and the AI and crypto craze that's inflated stocks to levels that are not only hard to justify but are also showing signs of danger.

Last week, the U.S. regional banking sector was hit by earnings downgrades tied to losses on commercial and industrial loans amid lawsuits alleging customer loan fraud. The lack of security actually being in place attracted attention, given the slack lending standards that have been reported as banks chase better yields now that the U.S. two-year note has fallen back below 3.5%. Just like the primary cause of the financial meltdown in 2007-08. The regional bank index (KRX) has declined 4.8% this year compared to the index tracking large banks (BKX), which has gained 15.9% so far. JPMorgan Chase CEO Jamie Dimon stirred the pot when he brought up the cockroach theory, suggesting that there is never just one cockroach, and that the trouble almost certainly highlights an underlying issue caused by the "covenant lite" lending standards (in this case).

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Then there's the growing debate, both in frequency and alarm, over how similar the AI bubble is to the dot-com bubble, and concerns over a similar outcome. Besides the potential for overpromising and underdelivering, practical uses for AI are a concern due to the lack of reliable accuracy. Likely more important, the extreme energy requirements are gaining attention as electricity customers of every sort are seeing their bills rise thanks to the demands on the system. When data centers are responsible for the Three Mile Island nuclear plant reopening (targeting 2028) after being mothballed since the accident in 1979, you know energy demands are a problem. On top of the significant energy needs for bitcoin mining, there is a push for electric vehicle use. On a side note, maybe that is contributing to the Trump administration's push to end EV support?

For a more specific example, chip maker NVIDIA has been the poster child for the AI boom, with it going from under $12/share in late 2022 to almost $190/share three weeks ago. That resulted in a market capitalization of $4.45 trillion currently and contributed significantly to gains in the stock market indexes, directly or indirectly. Yet the CEO, Jensen Huang, on Tuesday expressed his dismay that NVIDIA went from having 95% of the market share in China to 0% (due to trade restrictions imposed by the White House), stating, "I can't imagine any policymaker thinking that that's a good idea." Such developments may inspire profit-taking following such a sharp gain in value over three years.

At the same time, grain, oilseed and energy prices have been under significant pressure since the tops seen in the early days of the Russian invasion of Ukraine, as politicians from both sides of the aisle promised to bring prices for food and fuel down for consumers. The political incentive was obviously to help with being elected, but the budgetary incentive is to be able to reduce interest rates as inflation comes down, saving the government a large fortune in interest costs along the way. It's hard to argue with the reasoning, unless you're the one who is being hurt along the way (by lower commodity prices).

The one thing that low prices usually do is cure low prices. With increasing biofuel production use both in the U.S. and, more importantly, in South America, demand increases would likely be stressing available supplies if not for the trade war with China and the exceptional weather seen in many production areas over the past few years. Even then, it may yet, as anecdotal reports of disappointing yields in the U.S. (thanks to late-season drought and disease pressure) suggest much lower supplies may be the outcome. And a developing La Nina weather pattern could yet interfere with expected record production for the 2025-26 South American crop (that's just in the process of being planted).

Strong markets are highlighted by their ability to focus on bullish developments while ignoring bearish ones, and vice versa for weak markets. Should money managers decide it's time to take profits out of the equity markets and add to their commodity exposure at a time when inflation may return (should interest rates fall in support of a weakening labor market while inflation is left unchecked), they will surely find fundamental justification for the move. And with the S&P index at 64 times the value of the Bloomberg commodity index, they won't have to look far for incentives.

I welcome feedback along with any suggestions for future blogs. My daily comments can be found in Plains, Prairies Opening Comments and Plains, Prairies Quick Takes on DTN products.

Mitch Miller can be reached at mitchmiller.dtn@gmail.com

Follow him on social platform X @mgreymiller

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