Futures contracts allow traders to lock in a price for a commodity and give insight into where they believe prices are headed. Lumber futures, for example, are up nearly 50% in 2021 which suggests investors believe there will be higher demand for its uses in construction and increased prices tied to inflation.
Quint Tatro, president of Joule Financial, says stock market investors need to pay attention to the signals the commodity market is sending.
"As an investor, you really have to be kind of dusting off the old economics book and bringing out what we call 'products that have price elasticity' and that is that those prices can be raised incrementally without seeing a fall-off in consumer demand," Tatro told CNBC's "Trading Nation" on Wednesday.
Investors must be selective in choosing the companies that can pull that off, he says.
"That's why we're seeing strength in names like Coca-Cola, Procter & Gamble, Clorox, the staple-type names, but ultimately, traders I think can still look to some technology stocks that I think are trading at reasonable prices but also have that price elasticity," said Tatro.
One of those stocks, he says, is Amazon. He believes the e-commerce giant could pass on rising costs to consumers without seeing a dent in demand. The pandemic darling has come under pressure this year as investors rotate out of growth stocks — shares are up 3% in 2021, below the S&P 500's 11% gain.
Matt Maley, chief market strategist at Miller Tabak, called for a long-term rally in the commodity market last summer. However, he says after such sharp rises, they may be due for a breather.
"Last June, actually, I really looked for the end of the bear market that had started back in 2011 in commodities and really thought this is the beginning of a new bull market and I still believe that. However, as you mentioned a lot of these commodities have had huge, huge moves, and as we all know, you know, nothing moves in a straight line … and a lot of them are starting to become quite overbought in the near term," Maley said during the same interview.
The relative strength index for lumber, for example, rose into the high 80s in April, well above the 70 reading that indicates overbought conditions. Maley says a number that high for lumber has typically preceded a "sharp near-term pullback."
"This is something you want to buy for a long term but instead of chasing these [commodities] and the equities that are related to these names, you now have the opportunity which you haven't in had quite a few months to let them come to you. Don't be chasing them up here," said Maley.
Disclosure: Joule invests in Coca-Cola, Johnson & Johnson and Procter & Gamble on behalf of clients.