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Inflation On The Way? Cotton And Lumber Say It's Already Here

By Andy HechtCommoditiesFeb 15, 2021 07:43AM ET
www.investing.com/analysis/inflation-on-the-way-cotton-and-lumber-say-its-already-here-200560773
Inflation On The Way? Cotton And Lumber Say It's Already Here
By Andy Hecht   |  Feb 15, 2021 07:43AM ET
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This article was written exclusively for Investing.com

  • Inflation can be a tough beast to tame
  • Cotton explodes to a multi-year high; Memories of a decade past
  • Lumber snaps back to near its all-time high
  • The bond market is also sending an inflationary signal
  • Watch those raw material prices for clues

In August 2020, the US Federal Reserve made a not so subtle change in its expectations for inflation. For years, the central bank set a 2% target for the economic condition. The shift changed the target to an average. The Fed moved from its hard line in the sand to encourage higher inflationary pressures. Since inflation has been running well below its target over the past years, the voting FOMC members signaled that they would tolerate a prolonged inflationary period north of the previous 2% target.

Meanwhile, measuring inflation is an art and far from a science. The Fed’s formula for inflation is subjective, at best. Since asset prices fell to lows in March and April 2020 as the global pandemic caused a risk-off period, commodity prices have been rising.

Cotton and lumber are raw materials that trade in the futures market. Cotton fell to a low of 48.35 cents per pound on the nearby ICE futures contract in late March and early April. The fluffy fiber’s price hit the lowest level in more than a decade, since 2009. Lumber, a critical construction material, fell to a low of $251.50 in April. In a little less than one year, the price of cotton has almost doubled, and lumber nearly quadrupled—a sign that inflationary pressures are rising.

Inflation can be a tough beast to tame

The US central bank is making a calculated bet that inflationary pressures will edge up rather than explode higher, which could turn out to be more than a leap of faith. Throughout history, there are many examples of inflation running rampant. Perhaps the most significant was Germany, in the aftermath of World War I, which destroyed the value of the German mark versus the US dollar. In early 1922, 160 marks were equivalent to one US dollar. By November 1923, it took 4.2 trillion marks to purchase one US dollar. Today, Venezuela has the world's highest inflation rate, at around ten million percent.

When inflation begins to accelerate, the risk is hyperinflation, which is rapid, excessive, and out-of-control general price increases in an economy. The condition is typically above 50% per month.

Hyperinflation can have a devastating impact on economic and political conditions. Increasing the money supply can lead to demand-pull inflation which are the ingredients that create the situation. When aggregate demand outpaces aggregate supply, or too much money chases too few goods, demand-pull inflation is the result.

The US Fed assumes that it can attack rising inflation with short-term interest rates and other monetary policy tools. However, once the inflationary ball begins rolling down the hill, it can pick up steam, making rising prices challenging to control or stop. There is always a chance that the central bank could find itself chasing inflationary pressures with interest rate hikes, and the process could spiral out of control.

Over the past months, we have seen many commodity prices move higher. 

Cotton explodes to a multi-year high; Memories of a decade past

The cotton futures market is far less liquid than many of the other markets that trade on exchanges. However, cotton is an agricultural product that is a critical ingredient in garments, bedding, and many other items. In April 2020, the nearby cotton futures price reached a low of 48.35, the lowest level since April 2009. In early 2021, the price moved above 80 cents per pound.

Cotton Monthly
Cotton Monthly

Source, all charts: CQG

The monthly chart highlights that cotton’s price rose to a high of 87.33 cents on Feb. 12, over 80% above the price ten months before. Cotton made higher highs and higher lows over the period and was trading at its highest price since August 2018 at the end of last week.

The last time stimulative central bank and government policies lifted the price of cotton came from 2008 through 2011, in the aftermath of the global financial crisis. During that period, cotton rose from 36.7 cents to a record high of $2.27 per pound.

Cotton’s rise could be signaling accelerating inflationary pressures as more and more currency is required to purchase a pound of the fluffy fiber since April 2020. 

Lumber snaps back to near its all-time high

Lumber is an even less liquid futures market than cotton.

However, wood is a critical construction material used in new home construction, home repairs, infrastructure building and rebuilding.

Lumber Monthly
Lumber Monthly
 

The chart shows that lumber futures rose from $137.90 in early 2009 to a high of $325.20 in 2011 as stimulus and liquidity weighed on the US dollar’s purchasing power. In 2020, the price of wood futures fell to a low of $251.50 per 1,000 board feet in April and exploded to a record high of $1,000 in September 2020. After a dip to $490.80 in October, lumber snapped back higher and was over $980 per 1,000 board feet at the end of last week.

Lumber and cotton are far less liquid markets than crude oil, copper, grains, and the many other raw materials that trade on the futures exchanges. The lack of liquidity can exacerbate price moves on the up and downside. Meanwhile, the substantial rallies are a sign that inflationary pressures are rising. It now takes a lot more dollars to purchase these commodities than ten months ago, and the trends in both markets remain higher.

The bond market is also sending an inflationary signal

Bonds can be the best inflation indicator as they move inversely to interest rates. While the US Fed determines the short-term Fed Funds rate, the market establishes rates further out along the yield curve. Meanwhile, the Fed’s quantitative easing program is an attempt to keep longer-term rates low via purchases of $120 billion of debt securities each month.

However, market forces are still pushing bonds lower and rates higher despite the monetary policy tool the central bank uses to encourage borrowing and spending and inhibit saving.

UST 30-Y Weekly
UST 30-Y Weekly

The weekly chart of the US 30-year Treasury bond futures contract shows a bearish trend with rising interest rates since early August 2020. In mid-October 2020, the long bond futures fell below the first level of technical support at the 172-17 June 2020 low. In early 2021, the next level of support at the March 2020 low of 169-09 gave way. The 30-year bond futures traded to a lower low of 165-28 last week and closed near the low. The next level of technical support stands at 155-05, the late 2019 low. Rising rates on the long bond are a sign of increasing inflationary pressures. 

Watch those raw material prices for clues

Cotton and lumber prices are not the only commodities that have appreciated since March and April 2020. Copper, a bellwether for the global economy, moved from $2.0595 last March to a high of $3.8050 per pound and was sitting at over $3.7880 at the end of last week. WTI crude oil, the energy commodity that continues to power the world, rose from negative $40.32 per barrel in April 2020 to nearly $59.50 per barrel on Friday and was close to the high on Feb. 12. Brent crude oil, was at $62.43 per barrel at the end of last week. corn and soybean prices fell to lows of $3.0025 and $8.0825 last April and were trading at $5.3875 and nearly $13.72 per bushel on Feb. 12.

Energy, industrial, and agricultural prices have posted substantial gains over the past ten months. The trend in all these sectors remains higher while the bond market has declined below technical support levels. The Fed is encouraging inflationary pressures, but they could get more of the economic condition than they anticipate.

Watch those commodity prices. A continuation of gains will signal that the expanding money supply is getting beyond the central bank’s control.

Inflation On The Way? Cotton And Lumber Say It's Already Here
 

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Inflation On The Way? Cotton And Lumber Say It's Already Here

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Comments (19)
William Smith
William Smith Feb 18, 2021 9:18AM ET
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Inflation will start the coming depression as demand collapses.
Mark Henline
Mark Henline Feb 15, 2021 10:20PM ET
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whale bought furniture and Amazon forest..
Jurgen Daub
Jurgen Daub Feb 15, 2021 7:44PM ET
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inflation is here for long time and partially created by service companies and corporations where prices are being shamlessly and faithfully increased every year by 4, 5, 6 and more percent, not because the cost increased or the profit dropped and need to be recovered. o, just because 12 month are over and the herd needs to be conditioned and to get used to that prices increase every year. that while salaries at the same time incrrase by only 2 percent, somtimes less. just look at the Comcast's, Amazon's (prime) and many others.
Ted Wilson
Ted Wilson Feb 15, 2021 5:48PM ET
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Guess we should be farmers !
Steve Romank
Steve Romank Feb 15, 2021 3:30PM ET
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Oh dear! Oh no! Oh my!Another prophet of disaster, who says this ship is lost!!!Another prophet of disaster leaving you to count the cost.
dirk burmeister
dirk burmeister Feb 15, 2021 3:30PM ET
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taunting us with visions, afflicting us with fear predicting war for millions, in the hope that one appears
Paul Browning
Paul Browning Feb 15, 2021 3:30PM ET
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It's completely unrealistic to assume that the U. S. and world economies and stock markets can simply absorb the historic impact of the pandemic, do a V bottom and keep blasting up. Especially considering the extreme stock valuations before it happened. Sometime soon this whole house of cards is going to come crashing down.
leon kelly
leon kelly Feb 15, 2021 3:05PM ET
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Pls FWD this to Powell
Richie Berg
Richie Berg Feb 15, 2021 2:04PM ET
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Lumber prices not related to a US president that will stop public land logging?
Eddy Warmerdam
Eddy Warmerdam Feb 15, 2021 2:00PM ET
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The reason for higher oil prices is quite a logical one (reduced production). Isn’t there something like that going on with cotton and lumber - I wonder.
phil chalmers
phil chalmers Feb 15, 2021 1:53PM ET
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please. they just trying to use scare tactics. to not help people in need . inflation yeah right we in the middle of one of the biggest an sneakiest depression s in history. million going to loose homes and apts. ,cars. the economy is being fraudulently pumped up. till the bubble burst. no one has any money in families making under100k. but they are giving them to keep it going. next year if they don't start a monthly stimulus. when the banks try to collect on every loan . its going to be a disaster .
Tanner Moss
Tanner Moss Feb 15, 2021 1:50PM ET
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Its gonna get so bad . Houses will be worthless
Michael Garrett
Michael Garrett Feb 15, 2021 1:45PM ET
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equities, crypto, housing, pretty much any other asset also say it's here
Abdul Hafeez
Abdul Hafeez Feb 15, 2021 1:35PM ET
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Helo. Please send me details
Vinicyus Oliveira
Vinicyus Oliveira Feb 15, 2021 1:32PM ET
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You guys better buy some bitcoin or something.
Options Trader
Options Trader Feb 15, 2021 12:33PM ET
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Milk is $1 more at the grocery. Fast food is up by 20%. Hair cuts are up by 30%. All within the last 3 months. Biden doesn't know what day it is and the fed is out of control. Say goodbye to the middle class.
MK MK
MK MK Feb 15, 2021 11:08AM ET
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There is one desicion: sell USD, it becomes toilet paper
Sultan rival
Sultan rival Feb 15, 2021 8:04AM ET
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In Great Recession,all commodities were higher than these levels but we didnt see any inflation, what is different now?
Ivan Radusic
Castor8888 Feb 15, 2021 7:46AM ET
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Great article Andy. Thank you so much 🙏👏👏👏
Mohammad Oladi
Mohammad Oladi Feb 15, 2021 6:09AM ET
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Yes. I think same too!
Abdul Hafeez
Abdul Hafeez Feb 15, 2021 6:09AM ET
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Matthew Lyons
Matthew Lyons Feb 15, 2021 5:24AM ET
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Right on!
 
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