I like catchy titles – but yes, what I’m presenting here is the most important chart out there (click to enlarge):
What it shows is the ratio of total return of commodities spot prices by the total return of a basket of treasury bonds.
You can say that this is an ultimate inflation/deflation metric. Commodities measure inflation, treasuries are the best during deflationary periods. When the trend is up – it is inflation. When down – deflation.
We had a brief and violent deflationary period from October 2000 to November 2001. Then we had a long and clear inflationary period from November 2001 to June 2006. The most strong market rally started around April 2003 – exactly the time when the 300 DMA crossed up through 500 DMA. Then short and violent deflation from July to October 2006.
Then, what all market pundits told us, we started the next inflationary trend, which culminated in June 14, when the inflation index jumped through 300 & 500 DMA.
What I’m saying it was just a bull trap. Today is the day when the ratio dropped back down trough 300 & 500 DMA. Give it another two weeks and 300 DMA will cross down through 500 DMA, starting the next violent deflationary period.
It’s hard to say if current condition is closer to December 2000 or April 2001, but I do not expect the history to repeat itself exactly each time.
What is clear is that the immediate future of economy and markets must rhyme with 2001 and 2002 more than with any of the past 10 years.
Fasten your seatbelts and enjoy the ride! 
June 26, 2007 at 12:38 pm
Roxy,
I suggest that you contemplate that your chart only has some short term implications, as the Fed will once again ride to the rescue before the election with liquidity. Bernanke can’t let this market totally fall apart, but he *needs* damage well ahead of the summer of 2008 to provide the magic wand of liquidity before the election without charges of political interference. Bernanke has chosen to chastise the metals markets and the liquidity gluttons by dropping the markets down 20% or so. In other words, a managed decline would suit his needs to a T.
So what would you bet on? I bet on a big oil price spike due to some Middle East foolishness, followed by a recession that can easily be blamed on them Ira* dudes.
Now, that means that a lot of folks take some major damage, but oh well, that’s capitalism. Then inflation will be the next big problem as cost push is already occuring with the Chinese imports.
have fun!
June 26, 2007 at 1:06 pm
>I bet on a big oil price spike due to some Middle East foolishness, followed by a recession that can easily be blamed on them Ira* dudes.
Can you elaborate why you believe Oil prices will spike up? Thanks
June 26, 2007 at 1:32 pm
What are the chances? Oil price behind:
http://stockcharts.com/h-sc/ui?s=$CRB:$DJCBTI&p=W&yr=3&mn=0&dy=0&id=p29880532891
We’ve had: Iran dealing in Euros. UAE planning dropping the dollar. A rumoured invasion of Iraqi Kurds by Turkey. A bond market sell-off which raised long term interest rates. An explosion of violence with Hamas in the Gaza.
Its all about a high oil price.
June 26, 2007 at 2:02 pm
>>> I suggest that you contemplate that your chart only has some short term implications, as the Fed will once again ride to the rescue before the election with liquidity
Suggesting that the deflation part of inflation/deflation cycle could be prevented by cutting rates is the same as claiming that the recession will never happen again.
They always cut rates. It never helps right away, the recession happens anyway. This time is the same as the previous 50 times.
June 26, 2007 at 8:00 pm
[...] The most important chart I like catchy titles – but yes, what I’m presenting here is the most important chart out there (click to […] [...]
June 27, 2007 at 11:26 am
Oh, I don’t even begin to wonder about the recession- that is built in, just the fact that there will be no appreciable deflation beyond house and asset prices. Deflation would mean a fall in general prices, which isn’t going to happen until you have a large number of zombie companies operating in Chapter 13 proceedings. Kinda like what happened in the airline industry after 9/11 loans started to drop the big airlines. Further, since we are now dependent on imports for so much of the real goods that we consume, inflation will follow in those due to the falling dollar and no real relief from the higher *world* commodity prices that we will face.
June 27, 2007 at 4:43 pm
Well, I look at gold and silver and right now I see both of their 50-day SMAs trending down below their longer SMAs. Silver looks like it broke down today. Meanwhile the S&P is working back and forth on resistance and god knows which way the ping-pong ball will go. I see a clear downtrend in that graph (or a possible whipsaw) and would say I see a head-and-shoulders in that graph but like being abducted by aliens or counting Elliott Waves that’s they type of thing one should keep to one’s self.
June 27, 2007 at 4:44 pm
Fran Six:
>We’ve had: Iran dealing in Euros. UAE planning dropping the dollar. A rumoured invasion of Iraqi Kurds by Turkey. A bond market sell-off which raised long term interest rates. An explosion of violence with Hamas in the Gaza.
All of which is been on going for a considerable period and to some degree its already priced into the market. I was curious if AllenM has knowledge of something new that would result in a Oil price spike.
AllenM:
> Further, since we are now dependent on imports for so much of the real goods that we consume, inflation will follow in those due to the falling dollar and no real relief from the higher *world* commodity prices that we will face.
Since consumers are up to their eye balls in debt, a cost rise in overseas goods and communities will likely lead to a large reduction in consumption. Just as much as American consumers love to consume foriegn imports, overseas central banks and gov’t want to keep it that way since US consumption keeps overseas factories fully employed.
>Deflation would mean a fall in general prices, which isn’t going to happen until you have a large number of zombie companies operating in Chapter 13 proceedings.
Or an excesive amount of manufacturing capacity with too few consumers. For decades overseas gov’ts have been subsidizing their exports (aka Bretton Woods II). If they were not willing to stop this practice decades ago, I don’t see that there is any reason why the won’t continue in the future, even in the event of a global recession. If they pull support for the dollar there are a lot of overseas factories that would close or significantly reduce production because the primary demand originates with US consumers. It would also make US exports much more competitive, would could further reduce production because of increased competition. Although, there is the possibility that US congress will enact protectionism in the belief it would save American jobs. I would also like to add, that during the last recession, CB’s adjusted rates lower to match the lower US rates in order to prevent their currencies from appriecating. I believe the will do the same during the next recession. No major CB want to thier currency to appreicate against the USD since their economies are dependant on exports.
If we fall into recession it will likely derail inflation for a while, since demand for goods and commodities will fall globally. I don’t think we’ll experience the same bounce when the fed cuts rates again, becuase of the changes made to borrowing. For instance, banks and investors will probably give much more thought about loose lending pratices. Default insurance will probably be substantially higher too. I believe It will likely be much harder for the fed to kick off another national (or international) borrowing binge which would probably be required to drive inflation higher.
FYI:
“Realtors attend worship service to pray for better market”
http://www.nwfdailynews.com/article/6725
Government Buying Binge in U.S. Getting Noticed
http://www.bloomberg.com/apps/news?pid=20601039&refer=columnist_berry&sid=aTfD6VezQk9w
(CBs are running out of US gov’t debt to purchase for trade surpluses. Trade surpluses are outpacing Gov’t spending)