According to the recent TIM (Trade Ideas Monitor) report and the TIM Sentiment Index (TSI), institutional brokers became less bullish over the last five trading days, trending towards neutrality by the end of the week (see previous post or youDevise website for additional information on the TIM report). For the five trading days ending June 18, the number of new long ideas as a percentage of new ideas sent to investment managers declined to 70.92%, compared to 73.66% one week earlier (see last week's post). The intra-week trend was positive. Longs represent 64.92% of all ideas in June.
As for individual securities in the U.S. and North America, the US Natural Gas Fund (UNG) and Endo Pharmaceuticals (ENDP) were the stocks most recommended as longs by institutional brokers, while General Electric (GE), CEMEX (CX), and Palm (PALM) were recommended as shorts.
Once again, the TIM Report appears to be an interesting idea and new source of data. I will continue to monitor it to determine its use for trading - i.e., whether the data is too lagging, or has some leading information, or whether is can be used as a contrarian indicator.
The threat of Hurricane Dolly disrupting oil and natural gas production in the gulf coast helped to stem the slide in crude oil and natural gas prices late last week, but now as reports indicate that production will be relatively unaffected, both have continued their sell-off. As of mid-day, crude oil was down over $4.50, falling below $127 a barrel while natural gas was off over $0.50, falling below $10 per MMBtu. As I write this post the UNG is down -5.72%, while the natural gas company Chesapeake Energy (which I have been following) is getting taken to the wood shed, down -7.47%. This stock certainly looks sick and is already testing the support I worried about earlier in a post written just yesterday morning. Longer-term fundamentals still appear bullish based on long-term projections in supply and demand, but short-term price activity is certainly weak. The crude market has been known to turn-on-a-dime lately, but trading or picking an investment bottom is foolish at best. Giving up a few points to wait for confirmation of the trend is probably the smarter move. As for now, things are certainly looking ugly in oil, and natural gas seems to be going along for the ride. Both seem to be looking for reasons to go down, unlike just a few weeks ago. It is unclear how much of the current moves in crude are based on the recent passage of the Senate bill aimed at curbing speculation.
Recently there has been a lot of discussion as to whether the run-up in commodity prices is a bubble or not, or whether there is a fundamental factor at work, primarily a sustainable supply-demand imbalance.
A recent WSJ survey found that 51% of those surveyed said that demand from China and India was the prime factor for high energy prices, with 41% blaming demand for rising food costs. Supply constraints were listed by 20% as causing higher food prices, while 15% felt that supply was resulting in higher energy prices. Only 11% felt that a speculative bubble was in the works.
So what should we take of this? Those surveyed felt that the supply-demand imbalances were the major cause of higher commodity prices, and not speculation. Furthermore, demand is driving the growth and higher prices, and not simply lower supply. This is something often debated, but those surveyed felt differently on average - we have enough for now to go around, people are just demanding more of it. This makes sense to me, given that China and India are continuing to increase their energy needs to grow their economies and increase the standard of living for their citizens. This higher standard of living is putting further pressure on food commodities, no only to consume directly, but also to feed livestock as the demands for protein-based foods increases in these areas of the world. Supply may eventually become more of an issue, but demand appears to be driving prices.
As with any survey of economist and analysts, there were "two-handed" inconsistencies. The same survey group felt on average that the price of crude oil would fall to about $105 by the end of next month, and to about $93 by the end of 2008. Demand is high, supply in check, but prices will fall? Possibly, and this course is the argument surrounding the falling dollar. But this is not what the responses feel. Only 15% believed that currency (i.e., dollar woes) were causing higher energy prices, and only 7% felt they were contributing to higher food prices. This is somewhat surprising given the amount of talk recently about how weakness in the dollar is contributing to the high cost of crude oil, with some estimates showing nearly 50% of recent price increases resulting from the falling dollar. 
In the end, even with the discussions of crude oil prices being too high, and pronouncements of $150-$200 a barrel prices in the next 6-24 months (bringing back images of Internet valuation calls in the late 1990s - where a yearly price target was raised one day, only to see the stock move to that new level a few days later), it is still difficult to foresee a complete collapse of commodity prices, at least a sustained collapse over the long-run. Will there be sell-offs and short-term corrections? Yes. Will there be volatility? Absolutely. Will there be adjustments as the dollar strengthens? Most likely. But will there be a total collapse in demand? It is doubtful. Demand destruction is always a worry, but people will always want to eat, and emerging countries will need energy to continue their growth, just as the United States has in the past, and will continue to in the future.
So as commodity investors, in particular energy investors, what do we do? The safer investments may still be in the "consequence" plays, i.e. the seed and fertilizer companies for the food commodities, and natural gas for the energy plays. The Potashes of the world still have tremendous demand and pricing power. Natural gas, while also having a nice run-up recently, is still trading at a lower BTU multiple than crude oil. Using historical comparisons, natural gas still has room to move to the upside, even with crude oil leveling off. If crude reverses its upward trend, this lower than historical multiple may also cushion the fall of natural gas if crude oil was to begin selling off.
The moves in energy have no doubt been sharp, and the prices do seem high, but this may in fact be the issue that we struggle with when considering investments in commodities. We have not seen $125 crude oil before, and the recent spike does seem over-extended, so it certainly seems scary. Of course, if crude oil was a stock, and the company had the same level of demand, pricing power, growth forecast, future supply issues, and strong technicals, many of the same investors might be jumping into the stock, while at the same time shying away from crude oil. Of course, commodities and stocks are very different animals, and stocks also top and end badly, or at least have large corrections, even for good companies (i.e., Google), but the analogy is not totally lost. The key is to eliminate the emotion as much as possible and examine the fundamentals and technicals for what they are. When they change, they change - and this could happen today, tomorrow, or next year. But when they are in place, they are hard to ignore. Right now they look pretty good.
Tickers: POT, AGU, MOS, MON, UNG
