by Scott Hoffman, Senior Broker & CTA
Although trading in many markets may be light this week, there is plenty of economic news for traders to sift through. Last Friday saw a benign CPI report; this week sees housing starts Tuesday, Leading Economic Indicators Thursday, and Durable Goods orders on Friday. In addition, there are many Third Quarter earnings reports out this week, so there should be plenty to trade off for those that haven’t closed down for the year. Over all this we have the sprint to close out the holiday shopping season, which often sets the stock market’s tone for the beginning of the new year.
Stocks have sprinted higher in December as traders have given the Bernanke Fed a vote of confidence in bringing about a “soft landing” for the economy. I’m still bullish on stocks, as strong corporate cash levels and the wave of mergers and private buyouts should continue to underpin stock prices. Add to that the fact that the Fed will be unlikely to raise interest rates next year and you’ve got the recipe for a good stock market for 2007. The big risks for stocks for 2007 are thoughts that the stock market is due for a correction, the usual geopolitical suspects, and the course of interest rates for next year. Later into 2007 expect the market to begin to handicap the US Presidential election in 2008.
The second half of 2006 saw a decline in US interest rates as the Fed’s tightening cycle came to an end. While some may wish to argue, the fact that the Fed has appeared to “burst the housing bubble” and decline in energy prices has moderated inflation expectations, allowing the long end of the yield curve to rally. December’s decline in Bond prices is finding support around the 50% retracement level of the October to December rally; an ability to hold this support should lead to a retest of December’s high. I plan to use employment as a barometer for Treasuries next year. Decent job creation should continue to underpin consumer confidence.
The Dollar traded in a fairly tight range for the second half of the year as moderating interest rates in the US were counterbalanced by the rally in the stock market. The late year retreat in precious metals prices also seemed to be a vote of confidence for the Dollar. We’ll most likely see a continuation of the Dollar’s tight range for early 2007; trending moves will be more likely as we move farther into the year and the course of Fed interest rate policy becomes clearer.
As the range in the Dollar narrowed for the second half of 2006, so did gold’s. The retreat in energy prices and ebbing US inflation expectations weighed on gold. On the other side, the prospect for lower US interest rates and the continuing geopolitical picture in the Middle East underpin it. Expect the traditional inverse relationship of gold and the Dollar to be the predominant factor for gold for 2007.
Sugar prices were cut in half in 2006 as energy prices fell and production returned to more normal levels. The decline is finding support near the lows from 2005 in the 10 to 11 cent area. I’m bullish on sugar at these price levels, with a move over resistance at 1250 likely leading to a move toward 1450 to 15 cents.
Cotton prices fell approximately 25% in 2006 as production levels recovered from 2005 levels. Cotton traders were also concerned about consumption in the face of a slowing US economy for 2006. Cotton could be a stealthy bull for 2007 as the biofuels mania may draw acreage from cotton planting. I view pullbacks into the low 50 cent area to be a good long term buy, looking for a spring summer move toward 60 cents as cotton “bids for acres”.
Defying the “experts”, Crude Oil staged a big decline in the second half of 2006 as the US hurricane season passed without incident and inventories returned to historical norms. OPEC may have painted themselves into a corner as they announced a production cut at their December meeting, and the market failed to rally after the announcement. The inability of OPEC to support price may speak to further declines for early 2007, although there is good support for crude oil under $60 a barrel. The wildcard for energy prices is the geopolitics of the Middle East, with Iraq, Iran and Lebanon all serving as potential hotspots.
As 2006 saw a rebound to more normal production and stocks level, soybeans saw their usual harvest decline into late October, pushing well under the $6 mark. Expect the bean market to be especially sensitive to South American production as their production is especially important given the loss of bean acres to the ethanol mania driven increase in corn acres and worldwide strength in protein demand. In addition, the continuation of commodity index capital should continue to see its way into the grain markets, keeping prices firm. Expect prices to remain firm, especially in new crop beans, at least until 2007 acreage becomes clearer.
The historic rally in corn eased a bit late in 2006 as demand slowed a bit. A large commodity fund long position leaves corn vulnerable to a correction, but I’d view any corrections as a good buying opportunity as index fund and ethanol demand should continue to support prices, especially for new crop corn. The fact that any projections of an increase in corn acres for 2007 will be dependent on favorable planting weather should keep corn prices well supported until that part of the equation clears up.
PLEASE NOTE THAT THERE IS AN INHERENT RISK OF LOSS ASSOCIATED WITH OPTION CONTRACTS. OPTIONS TRADING IS NOT SUITABLE FOR ALL INVESTORS. OPTIONS CAN AND DO EXPIRE WORTHLESS. IF YOU PURCHASE A COMMODITY OPTION, YOU MAY SUSTAIN A TOTAL LOSS OF THE PREMIMUM AND OF ALL TRANSACTION COSTS.
