Commodities Present a Murky Picture

 | Sep 04, 2012 | 5:00 PM EDT
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For a sports junkie like me, this is the best time of the year. Baseball races are in the home stretch and the Baltimore Orioles are in the thick of things. College football has kicked off and the pros kick off playing tomorrow night. Traditionally, we see volume pick up in the markets as summer homes are closed down for the year and everyone gets back to work. In addition, as this is a presidential election year, the markets will likely be quite news-driven as the political rhetoric heats up.

So it is a good time for this value guy to poke his head up and take a look at the various macro factors in play. I am not a macro trader, but my quarterly look around at the action has generated some solid observations and trends that have played out well and helped me in my search for bargain opportunities. I spotted significant opportunities in oil and gas late last year as well as in distressed markets, including Italy and Spain. I am often able to find safe and cheap securities that allow me to profit from assets and markets that are nearing the point of maximum pessimism.

The big story in the commodity markets is, of course, grains. Prices have soared this year. We have a perfect storm in the grains industry as the drought in the U.S has decreased production and Brazil has sharply reduced its soybean exports. Traders also are said to be expecting increased demand as a result of additional fiscal stimulus. Soybeans are up almost 50% and corn is up 25% so far this year. This is going to create some price firming for consumers and the chicken producers and consumers are going to take a hit. Buffalo Wild Wings (BWLD) in particular stands out as a stock that could get hit hard as a result of margin pressure from high chicken prices.

I have now been told by enough people that cattle and hog prices will fall as herds are slaughtered early in the face of high feeding costs. According to just about everyone, this will set up a shortage and higher prices next year. In fact, I have now heard this enough to predict that it will not happen in such an efficient fashion. Markets are never that easy. Either the much anticipated slaughter will not happen and prices will simply soar or the markets will collapse and take out all the early adopters of this scenario before firming. Increased volatility in cattle and high prices could create opportunities in the producers such as Smithfield Foods (SFD). That company is already feeling the pinch of higher food costs. The company missed estimates on lower revenues this morning.

In reviewing year-to-date commodity performance, I would note that not much is really cheap or trading at multi year lows. Lumber has rallied about 16%, as talks of a homebuilder rebound scatter through  the markets, but copper, which is typically the most predicative commodity when it comes to building activity, is not seeing the same demand or price firming. I concur with fellow contributor Roger Arnold that the recent firming in housing is the head fake before the final leg down. Too much real estate remains on the bank books. I think it is time to sell; I may even consider shorting the homebuilders.

The commodity markets' macro picture is very muddled right now. Nothing is particularly cheap and food is getting more expensive. It is best to adopt a wait-and-see -- and then react -- attitude rather than try to predict how the markets will react. Many of the commodity markets look to be near a tipping point and I would not want to be on the wrong side of any potentially explosive moves.

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