Commodity Prices: Nowhere to Go But Up (Part 1)

I used to spend more time reading equity research and general capital markets research. But when I get the chance, I still enjoy seeing both what analysts and Wall Street Economists have to say about the market, especially as it pertains to commodity prices and other areas directly impact procurement and supply chain issues. A recent post that I discovered through Seeking Alpha highlights one financial observer's view of the coming inflation route, even putting it in historical perspective. According to the post, "Raymond James Chief Investment Strategist Jeff Saut is out with his latest weekly missive and this time around he is addressing inflation. Right off the bat, he cites commodity prices that have increased by obscene amounts since January of 2009. Oil is up 118% and copper is up 185%. ... The story focuses on inventory levels and emphatically notes that they aren't all that busy on a business level, yet they are seeing prices skyrocket higher."

Why are Saut and other observers so sure we'll see inflationary pressure? They posit that given the orgy of government spending we've seen of late and the mounting deficit, we only have three options to pay back the debt -- the easiest way being with "cheaper dollars." The other options are politically and economically untenable and represent a potentially more dangerous scenario than commodity and monetary inflation. These are "default," or a severe economic contraction, resulting from a combination of higher taxes (which we're starting to see already), plus a massive cut in government and corporate spending, which thereby leads to reduced consumer spending.

According to the post, "Saut feels that inflation is the method the government has selected and many won't disagree with that assertion." In fact, other researchers and investment houses have also come to the same conclusion, the article notes. Commodity inflation might take an even more brutal upward turn this time around compared with past periods of prolonged inflation (e.g., late seventies, early eighties). What's different? For one, ETFs and other investment vehicles are making it easier for companies, funds and individuals to park money in commodities they perceive to be inflation-proof. In this case, greater speculation equals increased volatility and higher prices for everything, from base metals to oil and energy.

Spend Matters believes that procurement organizations in the manufacturing, retail or other sectors dependent on commodities -- from cotton to copper -- should combat commodity inflation and assure continuity of supply in volatile markets, making it their top priority in the second half of 2010. Whether analyzing which parties (suppliers, buyers or third-parties) should assume the risk of commodity price inflation or looking into global options for materials to execute risk mitigation strategies such as hedging and forward buying, procurement leaders will have their hands full if this predicted inflation comes home to roost.

Jason Busch

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