Commodities Boom Is Back, Thanks to Bailout

The US financial bailout plan is giving new life to commodities prices.

Just last week, the price of crude oil, gold and other commodities was slumping on worries that the Wall Street crisis would cause a recession, slowing demand for basic assets.

But the Treasury's proposal to bail out the financial system, unveiled over the weekend, is widely seen as inflationary. And that's giving a big boost to commodity prices.

Inflation worries cause investors to dump US dollars and flee to hard assets such as crude oil and safe havens, especially the gold.

But with so many uncertainties buffeting all markets, just about everyone expects more violatility in the near-term.

“With the Paulson plan, they are going to be printing so much money it is going to be inflationary, it’s flooding the market with dollars, pumping up commodities right now,” said Scott Joss, president of ClearTrade Commodities, a Chicago broker.

“It’s all about the dollar now,” says Jonathan Pivnick, of MBF Clearing Corporation, “Now the euro is starting to trade stronger, the dollar is a little weaker and all of sudden commodities are looking a little better.”

“Market participants are taking their currencies home,” adds Joss.

If the bailout plan fails to win Congress’ blessing, generally expected by the end of the week before a scheduled recess, it may not necessarily mean reversing these trends, especially for gold prices.

”If people start to fear the market and do not trust what the government is doing, then we will start heading up” to gold over $1,000,” said Joss.  “Nothing is stable in these markets right now.”

Although gold prices rose today it encountered resistance going above $900, noted Jake Bernstein, a veteran trader, now head trader at Network Press, in Santa Cruz, California.

He suggested this indicated there was still some confidence the Paulson plan would work.

Otherwise “we really should maintain those gains if this is indeed a crisis that is going to spread even further,” he said.

Confidence that the financial sector bailout would stem further economic damage was another factor pushing up crude oil prices which climbed more than $11 by mid-day Monday.

That oil production in the Gulf of Mexico is still offline in the wake of two back-to-back hurricanes was another factor propping up oil.

“Crews have returned to most evacuated rigs and platforms, but damage to pipeline infrastructure will keep production offline for weeks,” saidMorgan Stanley in a note Monday.

Today's sharp oil price spike was the result of a “short squeeze”  with buyers taking delivery of West Texas Intermediate crude...[because] they knew full well that there is not enough physical oil to satisfy speculative requirements," says Tom Kloza, chief oil analyst at Oil Price Information Service.

"It’s not about any tightness in oil—more like a short covering rally," as ocurred last week with stocks of financials stocks, he said. But "november numbers are more realistic," he added.

It remains unclear how commodity prices will be effected by liquidity draining away from all financial markets because of Wall Streets process of de-leveraging.

Wall Street investment houses, Goldman Sachsand Morgan Stanley, active commodity markets players, might trim their participation in these markets because of the greater regulation they will now be subject to as a result of converting to bank holding companies.

But as long as investors are spooked by equities there is probably still some upside for commodities.

“I think it depends on how shaky the market feels, the worse response you see from the S&P 500, I think the stronger gold will be,”’ said Bernstein.

“If we can clear $900 on the December futures contracts, then we have a good shot at $940-950…time but if it happens it is going to happen in the next few days – that’s the kind of environment we have,” he added. 

“As far as violatility, I think, this is still the tip of the iceberg in terms of what we are going to see.”