In the headlines: From oil to lumber to metals, commodity prices are tumbling.
Investors’ eyes are on copper in particular – the raw material that’s seemingly used in almost every industry, from auto to tech to construction. Copper futures on the benchmark London Metal Exchange have fallen by more than 20% in the last few months, going from a high of $10,730 per ton in March to just $8,575 per ton as of yesterday’s close, which officially puts the metal in a bear market.
Known as Dr Copper to industry insiders for being a proxy for overall economic health, copper prices have at times coincided with the booms and busts of the broader markets, and even anticipated future economic downturn. The year-over-year (YoY) change in copper price also correlates well with that of the ISM Manufacturing PMI, a key indicator of the state of the US economy.
This is happening within the context of the Fed releasing fresh inflation data on Wednesday, which showed that prices surged 9.1% year over year and 1.3% from the prior month – ahead of forecasts at 8.8% and 1.1%, respectively. Stripping away the more volatile industries, you get the annual core inflation number, which was also up 5.9% year-over year but eased from last month’s 6%.
Why it matters: Commodity prices and inflation are related – when the price of a fundamental commodity like copper surges, or in the case of May 2021 soars, the economy can be at a risk for inflation. The relationship makes intuitive sense: if the cost of making an item increases, as it did for manufacturers that relied on copper in 2021, the cost for the consumer also goes up, tightening the market. Conversely, when prices start to slow, manufacturers can slow output and the overall economy can contract, which could signal a deflation or in extreme cases, a down cycle.
“… As commodity prices slump… headline CPIs will collapse around the world, and with them the inflation narrative (although the reprieve might prove temporary),” said Albert Edwards, Societe Generale’s co-head of global strategy.
Between the lines: What’s important to remember is that CPI numbers capture the past – they don’t always provide an accurate picture of the present. Falling commodity prices might mean that inflation is already slowing and that for the president time, the most recent report – as President Biden put it on Wednesday – is “out of date.”
In terms of Fed rates, which are going up to tame inflation, falling copper prices might help determine how aggressive the next rate hike will be (75 vs 100 basis points).
“With commodity prices falling sharply since (June) and wage growth moderating in recent months … speculation about a 100bp hike this month looks to be misplaced,” Capital Economics analysts wrote on Wednesday.
“The July Fed decision will probably be a 0.75 percentage point hike…” wrote Bill Adams, chief economist of Comerical Bank in a note on Wednesday.
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