Economic Outlook

A Commodity Stocks Surge Signals Strength


For all the signs of a slowdown in the U.S., investors are snapping up commodity stocks in a bet against a double-dip recession. The 32 mining companies, seed makers, and chemical suppliers in the Standard & Poor's 500 Materials Index rose 10 percent from the end of June to Aug. 20, while the broader S&P 500 index climbed 4 percent. The gains pushed the stock prices of the companies that make up the materials index to an average of 17.4 times annual profits, the highest price-earnings ratio of any industry, data compiled by Bloomberg show.

Premium valuations for companies such as Dow Chemical (DOW) and Allegheny Technologies (ATI) preceded general stock market rallies in the past, as demand for raw materials signaled growth throughout the economy. "If the market really believed the double-dip story ... materials stocks would not be doing this well, that's for certain," says Nicholas P. Sargen, chief investment officer at Fort Washington Investment Advisors in Cincinnati, which manages more than $30 billion.

The Reuters/Jefferies CRB Index of 19 raw materials has gained 3.6 percent since the end of June, led by wheat, which climbed 42 percent as droughts in exporting countries threatened to reduce supplies. Sugar rose 21 percent as delays worsened at ports in Brazil, the world's biggest exporter. Copper and cotton rallied 12 percent, according to data compiled by Bloomberg. More than $165 billion in takeovers of raw materials producers have been announced this year through Aug. 20, the most since 2007, according to Bloomberg.

Strength in commodities is "an important leading indicator," says Bruce McCain, who oversees $25 billion as chief investment strategist at the private banking unit of KeyCorp (KEY) in Cleveland. "The strength we see in some of those [commodities] is good reassurance there is more underlying economic strength than had been feared."

Not everyone agrees. David Rosenberg, chief economist at Gluskin Sheff + Associates, believes the probability of a second recession in three years is greater than 50 percent. Rosenberg says the surge in commodity stocks reflects growing demand from "the most dynamic part of the global economy right now, which is emerging Asia." That surge, he adds, doesn't necessarily reflect prospects for growth in the U.S. and Europe.

The bottom line: Investors' enthusiasm for commodity stocks may be signaling that the U.S. economy won't fall back into recession.

Stanton is a reporter for Bloomberg News.
Bit is a reporter for Bloomberg News in New York.

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