Commodity Readings: Dow-Gold ratio, Commodity arbitrage, Inflation cycles
The Fed’s new “reflationary melt-up” is clearly designed to keep stock prices buoyant. But it’s only adding to the Case for Gold , too. “I would be very surprised if the Dow Jones Industrials/Gold Ratio didn’t decline to between 5 and 10 within the next three years,” said Marc Faber of the Gloom, Boom & Doom Report recently.
If that call proves right, it might come thanks to Gold Prices doubling, or stock prices halving, or more likely some combination of both. But while the three peaks to date – of Aug. 1929, Jan. ‘66 and then late ‘99 – took the Dow/Gold’s top higher, the floor only held steady, down there at two ounces of gold and below.
- EconBrowser: Commodity arbitrage
While it is certainly true that the markets have gone through once-in-a-generation changes in price levels, extraordinary tight supplies, and unprecedented speculative investment, this still does not answer why arbitrage was unable to bring cash and futures prices together during delivery.
It is difficult to envision an increase in delivery costs that would explain the magnitude of convergence failure we have seen. Another line of argument is that the influx of investment in commodity futures by so-called long-only index funds has created bubbles in futures prices. Aside from the fact that there is a seller for every buyer of a futures contract, the fund/bubble argument has a difficult time explaining the fact that convergence problems do not have the same pattern over time in corn, soybeans, and wheat.
The third line of argument is that contract specifications need to be changed to increase storage premiums paid by takers of delivery or that takers should be compelled to ship grain instead of holding it in storage. These may be useful changes, but it is not yet clear how these factors could explain the observed convergence failures.
- Financial Sense: Show Me the (Commodity) Bubble! Part II
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