At first, I was slightly puzzled by this signal. As regular readers know, we used commodity prices as the canaries in the coalmine of global growth and asset inflationary expectations. True, the CRB Index has staged an upside breakout and has been in an uptrend since early July, but some of the upside in the commodity complex can be explained by the rally in agricultural products because of the drought.
A look at Dr. Copper shows that the red metal remains range-bound and is moving sideways. That's hardly the sign of a stampeding asset inflationary bull.
The inflation is in Europe
Then it hit me, inflationary expectations are rising in Europe. I should read my own writing once in a while (see The wealthy white people come through and An inflection point for Europe?) In the past, I had been looking for signs of rising inflationary expectations in an American context. The actions of the ECB and the rest of the Troika have served to light the match for the reflation trade.
The point and figure chart of the CRB Index in euros is far more constructive than in USD. The CRB in euros has staged an upside breakout since moving in a sideways consolidation pattern since 2011.
Bill Fleckenstein recently discussed the eurozone developments that I had written about and concluded:
It is important to note that while nothing has happened yet, there is now a clear path to get the ECB to the printing press promised land. If so, it is a very, very big game-changer. As I have stated often, if the ECB becomes the Fed, then the deflation fear trade, and all of its main consequences (e.g., indiscriminate government bond buying), are over, and the next big idea is going to be inflation.He concluded that Draghi has no choice by to crank up the printing presses, which will be highly bullish for the reflation trade.
That doesn't mean folks are going to instantly switch to an inflation fear trade, but that is where we are heading. Certainly, all those people who are concerned about deflation due to a banking and government bond market collapse in Europe will stop worrying about those things and will unwind positions put on to protect them from what they used to be afraid of.
Timing is always guesswork, but my feeling is that we are in the ninth inning of the ECB's transformation. However, there is no guarantee the Europeans won't be able to bumble along for a while until there is another crisis that forces their hand. Nevertheless, the bottom line is that, either willingly or because it is being forced by markets, the ECB is developing the rationalization and techniques it will use to become the Fed.Apparently, Bill Gross agrees. His tweet yesterday seems to have turned the market around:
Sentiment washed out
European equities are ripe for a rally because expectations are so low. BNP Paribas (via FT Alphaville) regularl publishes a contrarian sentiment indicator called "love-panic" and it's very low (contrarian bullish) in Europe:
...and relatively neutral for the US:
Momentum is already positive, as a golden cross, which is indicative of an uptrend, is imminent in the Euro STOXX 50:
Putting it all together, my conclusion is that it's time to get long the reflation trade, but investors need to focus on Europe.
Cam Hui is a portfolio manager at Qwest Investment Fund Management Ltd. ("Qwest"). This article is prepared by Mr. Hui as an outside business activity. As such, Qwest does not review or approve materials presented herein. The opinions and any recommendations expressed in this blog are those of the author and do not reflect the opinions or recommendations of Qwest.
None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this article constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or Mr. Hui may hold or control long or short positions in the securities or instruments mentioned.