Wednesday, October 15, 2008


The smoothed real estate cycle is 18.3 years. Turning points hit in 1954-55, 1973-74, 1991 and in 2008. There is also a boom bust cycle that takes 3 to 5 years to play out. We are at that turning point too.

Some people call the boom-bust cycle the copper-gold cycle. During a boom, businesses must buy copper, during a bust, the fearful hoard gold. Watching the interplay of industrial metals with precious metals is the best way to get a quick picture of the boom bust cycle.

For some weeks, I have been writing about how basic material stocks have been getting slammed. Yesterday, the one US sector up was the financial sector. The KRE bank index was one of the big winners. Take a look at its components and you will see stocks such as CVBF making good chart patterns. CVBF made its bottom in July at $7.6 per share. Last week, it tested the bottom by dropping down to $9.51 per share. It bounced off the test and traded at $11.60 yesterday.

Basic materials have not seen the bottom. This morning, on the London Exchange, KAZ, a big copper mining company, is down 15%! The one day fall in the basic materials sector is almost 10%!


A cycle is nothing but the never ending turning of a wheel. Thus, while most people think of leading indicators as coming first, investors should look for lagging indicators that lead the leading indicators. Lagging indicators tell us when it is time for leading indicators to lead; when it is time for stocks to move up.

Commodities, interest rates and inflation are three lagging indicators. A good way to draw a picture of commodities is to plot industrial metals as a ratio to gold. In early 2000, this ratio reached 62%. The market boom was at its peak; it was time to sell stocks and to buy bonds. By October 2002, the GYX ratio to Gold had fallen to 40% and it was time to sell bonds and to buy stocks. The next peak was strange. The ratio hit 62% in 2006 but the boom was not over. It was not until July of 2007 that yield curves flattened in Europe. I lost my focus and failed to sell stocks and to buy bonds in June of 2007, when the ratio hit 77%. However, the ratio has once again fallen to the 40% area. It was at 42% yesterday but the slamming of copper this AM makes 40% probable by tomorrow. It is time to sell bonds and to buy stocks.

The 40% figure is not magic but it is a strong number. The key point to remember is that stocks turn up while commodities are still on the way down. Commodities, interest rates and inflation rates trade together. The fall of these three set up both the stock market and the economy for a nice run. Yesterday, INTC, a major user of industrial metals, issued a stronger than expected profit report. This, during a quarter when the decline in metals had just gotten started.

What trades with the stock market? The money supply, the yield curve and the Dollar. The money supply has taken off to the moon, the yield curve is as positive as it has been in ages and the dollar turned up several months ago. After financial stocks lead the way, consumers will buy anything that moves. They will take their new found petro dollars to the store.

Looking backward can give a nice glimpse of the way forward. Using Alcoa Aluminum for an industrial metals proxy and Wachovia Bank as a financial stock proxy, we discover the truth about real estate recessions. From the start of 1990 until April of 1993, the US suffered through a real estate recession and a slow recovery. Alcoa Aluminum shares fell 15%. The S&P 500 did much better; it gained 25%. Wachovia Bank gained 123%. None of the above numbers include dividends. Those who held the average stock from before to after the recession made money. Those who held financial stocks more than doubled their money.


The Obama administration will not result in great changes to our laws. The annual payments of $1,000 to those who do not pay taxes will not wreck the economy. The payments will not do us any good but the end of the world is not coming. Put another way, the big difference between the Rubin - Clinton Administration and the Paulson - Bush Administration was the timing relative to the business cycle and the willingness of Bush to go after terrorists. The Clinton Administration actually was the more conservative.

Nancy and Harry have suggested they might call a lame duck congressional session in order to pass yet another stimulus package. Blue dog democrats and conservative republicans will form the loyal opposition. Such a bill will not pass without tax increases to pay for the largess. Dead on arrival!

"Conservative republicans" went along with Bush to pass huge spending bills. No child was left behind and seniors got discounted drugs. With liberal spenders in the majority, it will be the conservatives who will keep the brakes smoking. Yes, we will gradually move in the wrong direction but a strong cyclical recovery will provide the funds for growth in the economy and growth in government. The next train wreck will be many years down the road. The boom cycle is here.