Investment managers, spooked by falling stock markets, are seeking alternative investments. Unfortunately, they are like drunken hogs: as they flee one mess, they create another.
The comparison comes from an old tale of Minnesota farm life. Decades ago, a farmer bought spoiled batches of beer from a local brewery to feed his hogs. When giving hogs beer, however, one must be judicious.
One Sunday, the farmer and his wife went visiting. Their adolescent sons stayed home to play ball with neighborhood boys and do chores, including feeding the hogs. Their friends were amazed by the hogs’ zest for beer. “Give them some more,” they demanded when the first barrel was gone. The hogs slurped down barrel after barrel, until it was all gone.
Some hogs settled in the shade for a good snooze. But others, of roughly the same maturity level as frat boys, had excess energy to expend. Fences posed no obstacle. They rushed from garden to granary to flowerbeds. What Attila did to Rome was mild compared to what these hogs did to that farmstead.
Like the hogs, some Wall Streeters happily kept their noses in the stock market trough as long as the boys at the Fed poured in liquidity, pushing the market higher and higher. But when the flow tapered off, they rushed off for better alternatives.
Yes, some sought tranquility in the soft, clean straw of T-bills or safe money market instruments. This has helped push down short-term interest rates.
But others rampaged out into commodity markets. Commodities are hot. Prices of grains, fuels and metals have all risen dramatically over the past few years. Many bullish investors who bought futures contracts successfully sold out later at higher prices. Commodities have beaten the performance of many other investments.
And so the herd is pushing into this profitable alternative to corporate stocks or to new, sophisticated and suddenly risky derivatives like collateralized mortgages.
More money into commodities is not inherently bad. Speculators add liquidity to markets and, on the whole, more liquidity is better than less.
Nor does more money necessarily mean that commodity prices will be bid up further. Different new investors will interpret supply and demand fundamentals differently. Some will bet that prices will rise. Others will bet on their falling. Fund managers fleeing from stocks into commodities need not push the price of oil or wheat or copper higher.
But while there is no inherent reason why more money pouring into commodities must push prices higher, many observers think that is precisely what is happening. While commodity prices are rising because of economic growth in Asia and other fundamental factors, they also may be rising simply because fund managers think they are going to keep on rising.
That is the same logic that drove the stock market in the late 1990s and from 2004 through 2007. It may cause futures prices to overshoot levels justified by supply and demand for the underlying physical materials. Is yet another bubble inflating while we watch, one whose eventual collapse will provoke yet more economic oscillations?
© 2008 Edward Lotterman
Chanarambie Consulting, Inc.