Sleeping giant stirring in commodities

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Slowly but surely, commodities have been coming back to life.

It appears to have begun in soybeans early this year, followed by corn, wheat, and crude oil. Now gold and silver have been starting to follow as well. We've covered the trend heavily on our InsideOptions Pro service, which started getting inundated with upside trades in the energy space about two months ago.

In and of itself, a rally in a single commodity means nothing. It could result from a bad harvest here or a mine accident there. But the coordinated move that has taken shape in the last few weeks suggests that something bigger is underway that could make all of us a lot of money in coming months and years.

It's important to put the recent strength into context to see how unusual it truly is. In early 2009, for instance, energy rallied but foodstuffs were weak. Then last year the opposite was true. Now we have both climbing at the same time--something that hasn't happened since before the subprime-mortgage crisis.

Secondly, this nascent rally started forming when you would least expect it: as everyone panicked about sovereign debt worries in Greece and Spain. The chaos in Europe, after all, scuppered risk appetite and caused economists everywhere to lower estimates for global growth. The dollar rallied and the euro tanked, yet commodities were undeterred.

This is especially interesting because items such as oil and gold often move in unison with the euro--especially when big hedge funds pile into momentum trades. So far, those kinds of leveraged, follow-the-leader indexed bets have been absent. But the recent strength could be more sustainable because it appears based on "real" demand and could turn into something even more impressive if big institutions start to follow.

I put the word "real" in quotes because commodities trade according to their use value and their speculative value. The U.S. drought, for example, has significantly increased the use value of corn, soybeans, and wheat because there is less inventory for normal consumption needs. In addition, food demand will increase much faster than population as people around the world adopt American-style consumer habits.

Consider the historical precedent where U.S. consumption of corn for food and animal feed rose 109 percent between 1960 and 2000, compared with population growth of less than 60 percent. The reason is that we became more reliant on packaged goods and eating out, especially as women entered the workforce. Precisely the same thing is now happening across the world, and it's a structural shift that won't reverse any time soon.

Most readers are aware of this process, which is part of a long-term trend that some analysts have dubbed a commodities "super cycle." What's new is that this sleeping giant has been rousing from a four-year slumber. The bears tried everything they could to knock it down, and they have failed. Now could be the time that we see the second phase of the rally that began around 2004.

Then throw in the euro, which made a higher low in July versus where it troughed in 2010. If it continues to climb, that will also do nothing but help commodities. One or two positive headlines from Athens or Madrid, combined with some short covering, could be all it takes.

There are plenty of ways to play this move, but one idea could be to buy fertilizer and seed stocks such as Intrepid Potash (IPI), Agrium (AGU), Mosaic (MOS), and Monsanto (MON). Not only have earnings been strong, but their price/earnings and price/book ratios are also less than half the levels of 2007 despite profitability improving, and they've started outperforming the S&P 500 in the last three months.

(A version of this article appeared in optionMONSTER's What's the Trade? newsletter of Aug. 22.)

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Copyright © 2010 OptionMonster® Holdings, Inc. All Rights Reserved.

This article appears in: Investing , Options
Referenced Symbols: AGU , IPI , MON , MOS

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