It’s time to buy back into commodities

Markets took a bit of a hit yesterday.

Nothing too dramatic. 170-odd points off the Dow Jones index, a general slide in markets elsewhere.

The trigger point was unexpectedly weak manufacturing data from China. But on another day, similar data would have been brushed off by investors.

The trouble is, when you’re priced for perfection, just about any hint of an adverse breeze can knock you off your perch.

Worrying signs on the fringes of the investment world

As SocGen strategist Andrew Lapthorne notes, the MSCI World index of stocks has gone more than 400 days without a 10% correction. This is not unusual apparently – but it is roughly the average time between such corrections, says US analyst Barry Ritholtz. So one is probably due.

But it’s worth noting – given the general prevailing bullishness – that there are also disquieting things happening on the fringes of the financial world. The Argentinian peso’s steady slide against the dollar turned into a rout yesterday as the central bank apparently decided that it couldn’t afford to waste any more reserves on propping the currency up.

This isn’t astounding by any means. Argentina is a badly-run country and the black market exchange rate is already far weaker than the official one.

Also, emerging-market currencies in general have been struggling against the US dollar this year, amid concerns about the Fed reining in quantitative easing (QE). The Turkish lira needed propping up by its central bank yesterday. And the Russian rouble hit its lowest point since 2009 against the dollar.

Meanwhile, there are worries in China over a ‘wealth product’ that looks set to go bust at the end of this month. I’ll keep this simple. In essence, this is a story about banks selling unsuitable savings products linked to very dodgy investments (in this case, a coal mine) to yield-hungry investors.

People buying an asset that they think is much safer than it really is? Which is held ‘off balance sheet’ by the bank? If you’re thinking that’s a lot like the sub-prime crisis, then that’s because it is.

Until the last couple of days, it looked like China would just let the trust go bust. But it’s looking increasingly likely that some sort of bailout will be reached. Because as we already know, if investors start to wonder just what’s in these products that they’ve bought, then demand will dry up, and defaults and the cost of borrowing will surge.

Central bankers have us well trained

In fact, this story sums up the problem with this entire market. There are dozens of things that could go wrong. Money is getting tighter in Europe (we can talk about that another day, but it’s mainly because banks are repaying emergency funds from the European Central Bank), China, and the US. For a market that has been fuelled by cheap money, that’s a real threat.

The trouble for bearish investors is that there’s an easy solution to all this. Central banks have us all well trained. If they think the economy can’t take the pullback in the printing, they’ll just print more. There is very little to stop them right now. Inflation remains low. In fact, we’re seeing lots of people start to issue blood-curdling warnings about deflation, which often seems to come as a prelude to more money-printing.

The point is, you can’t yank all your money into cash on the off-chance that today is the day that it all goes wrong. So what do you do? As we’ve said many times before, buy what’s cheap, and avoid what’s expensive.

Buy the stuff that everyone else hates

We’ve mentioned the stock markets we like regularly in the past – Japan, various European ones, and selected emerging markets. But another asset is starting to get interesting again – commodities.

Investors hate them. But that’s a good sign. Because that means that all it takes is a little turn in sentiment for them to get a lot more expensive from here. And there are a range of scenarios that could turn out to be positive for commodities.

If there’s a deflation panic, and more money is printed, at least some of that will flow to ‘real’ assets like commodities. On the other hand, if growth picks up, then demand for commodities could well surprise on the upside.

And if the bull mood in the stock market continues, investors who have missed out on big gains elsewhere will start to look to the sectors that haven’t joined in the rally so far – and again that means commodity producers.

MoneyWeek regular writer David C Stevenson outlines a very promising and simple strategy for taking advantage of any commodities rebound in the latest issue of MoneyWeek magazine, out today. He tips three investment trusts in order of riskiness.

Given that they all yield more than 4%, I’d be happy to stick any one of them in my portfolio right now and get paid to wait for the bounce. If you’re not already a subscriber, you can read David’s piece and get access to the entire MoneyWeek archive, by subscribe to MoneyWeek magazine.

• We’ll be talking about lots of strategies to cope with today’s markets on the MoneyWeek cruise this summer. Where else can you enjoy a relaxing holiday and pick up some great investment tips from the likes of Merryn Somerset Webb at the same time? Find out more here.

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  • IJ1

    Japan. I don’t know where you get the idea that investors “hate” Japan. long nikkei in borrowed yen was about the most crowded trade in coming into the year. no wonder the nikkei is -8% so far this year.