Weekly Economic Update 09-28-2018

Solar Cycles and Commodity Super Cycles

About every eleven years agricultural commodity prices go straight up, but nobody seems to be able to offer a good reason as to why this phenomenon happens. After a great deal of research, I am on to something and I’ll share it with you now. This eleven-year cycle of increased prices in agricultural commodities goes back several hundred years, even as far back as the mid-1700’s.

While I’ve heard inflation is the primary driver behind this cycle, traders often seek to profit from it without understanding why it occurs. Classical chartists, who make trades based on financial-chart patterns, can point out how the smart money will buy agricultural commodities over a ten-year period, only to see prices skyrocket in the eleventh year. Chartists look to buy in when the price trend breaks out to the upside of a defined chart pattern. Some of these traders will tell you there’s a substantial amount of money to be made when this event occurs.

Other money managers and traders suggest agricultural commodity prices break out due to inflation expectations from money-printing by central banks. While this thesis has merit, agricultural commodity prices have been following this eleven-year cycle long before central banks existed. The actual reason this eleven-year cycle in crops exists is due to, believe it or not, our Sun’s sunspot cycles!

Recently, I read an article to further my understanding about solar cycles. The article included a graph of solar cycle numbers 22 through 24, dating back to 1985, and what I saw wasn’t a solar cycle, but an agricultural-commodity cycle. I compared the graph of the solar cycles to a few agricultural commodities charts I have access to and the correlation was predictable. Every time a solar cycle approached its minimum, agriculture prices shot straight up.

Solar cycles occur when the north and south poles of the Sun reverse. The magnetic fields switch on average every eleven years but that cycle can be as short as eight years or as long as fourteen. The first trackable cycle, known as solar cycle 1, began in 1755. Today we are approaching the end of solar cycle 24 and we will soon enter solar cycle 25.

A solar cycle begins when the Sun is at its coolest point, also known as a solar minimum, when the Sun is usually completely devoid of sunspots. The Sun reaches a solar maximum approximately five-and-a-half-years later, when it is reaches its hottest point in the cycle. At a solar maximum, the Sun usually has a high number of sunspots. As the Sun cools again, the number of sunspots decreases to zero, as it approaches the end of the cycle, another solar minimum.

A sunspot is visually depicted as a black spot on the Sun which is where a magnetic field emerges from the Sun’s interior. Those magnetic fields power solar flares and coronal mass ejections, or CMEs. A higher number of sunspots correlates to a higher number of CMEs. The CMEs increase the amount of ultraviolet (UV) light that is emitted from our Sun which increases the temperature on the Earth.

The number of sunspots during a solar maximum can widely vary. Solar cycles 19 (1956-1964) and 22 (1986-1987) are the hottest recorded solar maximums, creating 250-300 sunspots at their peak. The lowest recorded number of sunspots during a solar maximum was during solar cycle 5 (1800-1808), which only had a little over 50 sunspots. The most recent sunspot cycle, number 24, peaked at 150 sunspots which, interestingly, was lower than the previous two cycles.

When the number of sunspots is less than 50, it affects the amount of solar irradiates, or UV light, that hits the Earth. One reason UV light is critical for crops is that plants can produce as many as fifteen defense proteins from UV light. More importantly, as the amount of UV light increases, so does a plants ability to produce defense proteins. Crop problems begin when the Sun approaches a solar minimum.

Without enough UV light, crops are susceptible to mold and blight. Blight is a plant disease, marked by legions on a plant, which damages and kills plants. These diseases lead to lower yields, but diseases are not the only problem crops face during solar minimums.

While there are varying opinions on the matter, weather patterns seem to shift during solar minimums which lead to an increase in hurricanes, typhoons, flooding, drought, and overall cooler weather here on Earth. Crops can quickly be wiped out during such forms of inclement weather.

Early freezing is another problem during solar minimums, as temperatures drop just enough to cause the ground to freeze sooner than expected. Modern hybrid crops are designed to be harvested approximately ten days prior to the ground freezing. While cooler weather can be a boost to yields, an early freeze can severely impact crop yields or, worse, completely wipe out an entire crop!

Crop prices tend to rise as the number of sunspots falls below 25. In 2007, crop prices didn’t begin rising until the number of sunspots hit 10-15. As the number of sunspots fell to zero in 2008, crop prices, on average, nearly doubled in a twelve-month period. Going back 45 years, which are the oldest crop charts I can find, it appears crop prices rapidly rise every time during a solar minimum. Digging further, without the aid of charts, I have found repeated accounts of reduced crop yields and production during solar minimums.

Solar minimums, when the number of sunspots is very low or at zero, last about twelve to eighteen months in length. The transition from sunspot cycle 23 (1997-2008) to sunspot cycle 24, was two years in length. Crop prices initially fell in late 2008, as they began to anticipate the next cycle, but due to the slightly longer length of the cycle, crop prices shot up 60% in eight months in 2010.

It’s very clear the “Smart Money” understands the solar cycles and attempts to profit from them by buying agricultural commodities over the preceding ten-year period. Very few investors have the potential to make a large sum of money in a short period of time. Even legendary billionaire-investor Jim Rogers has been sharing with reporters that he has been buying agricultural commodities for the past couple years. When asked why, even as agricultural commodity prices have fallen in the past two years, Rogers explains that he often invests early because he is a terrible market timer. Rogers’ reason for investing in agricultural commodities is that he believes there won’t be enough supply to meet demand.

The mainstream media has been stating there is more supply than demand, which has prompted speculators to short agricultural commodities. The recent trade spat with China also has speculators believing the market will buy non-U.S. crops instead. Once you understand the solar cycles, as Rogers likely does, you come to the quick realization that he expects there to be lower crop yields and production as we head into a solar minimum. Hence Rogers’ view that there won’t be enough supply to meet demand.

Based on solar cycle 24, the current level of sunspots according to the National Oceanic and Atmospheric Administration (NOAA) and the Space Weather Prediction Center (SWPC) is around 10-15. Globally, inclement weather is popping up which is causing lower crop yields and production. If not for a large amount of speculative short interest in U.S. agricultural commodities, it is likely crop prices would be soaring.

While Rodgers will be quick to admit he might be wrong about the next big move in agricultural commodities, it is likely he fully understands that the Sun is quickly moving into a solar minimum. As global crop conditions worsen, foreigners will be forced to buy U.S. agricultural commodities regardless of the number of tariffs. When the big move higher in price comes, the speculators who are short will be forced into becoming buyers, which will cause agricultural commodity prices to rapidly rise, as they usually do every eleven years.

Now you know what the “Smart Money” knows – how crop yields and production are affected by the solar cycles. What concerns me is that the next recession will coincide with a rapid rise in crop prices, just like it did during the Great Financial Crisis of 2008-09. Interestingly enough, economic expansions and contractions can also be tied to the solar cycles, but I’ll save that story for a future update.

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Daily Market Briefs

  1. Thoughts from the Weekend

China announced Saturday morning that they are canceling the upcoming trade talks. Previously China proposed to send two mid-level delegations to the United States in hopes to ease trade tensions. China also stated that talks may resume sometime after the U.S. midterm elections in November.

With Treasury yields jumping back to their recent highs, there are renewed expectations of yields breaking out to the upside. Quantitative Easing caused short-term interest rates to fall and long-term interest rates to rise, which is easily seen by charting 10-year Treasury yields against the Fed’s balance sheet.

As the Fed unwinds their balance sheet, which is Quantitative Tightening, short-term yields should rise, and long-term yields should fall. So far, both short- and long-term yields have been rising. The reason long-term yields have been rising is due to the largest speculative short interest on long-term Treasury bonds in history.

Back in May 2018, both 10- and 30-year Treasury yields revisited their recent highs. Since then, yields fell, then rose back to revisit their May highs. While most investors are seeing this recent move as a sign yields are about to break out to the upside, it’s worth examining the speculative positioning.

Since May, short interest on 10-year Treasury yields have increased by +75% and yields did not breakout past their prior high. Short interest on 30-year Treasury yields have increased by +250% over the same period, and yields did not breakout past their prior high.

It’s very clear the Fed’s balance sheet unwind is causing long-term bond yields to fall, which is the natural course yields should take during periods of monetary tightening. Yields fall during periods of monetary tightening to offset the reduced growth rate of the money supply.

Speculators have continued to aggressively increase their short positioning because they believe Treasury yields should be skyrocketing. If all the speculative positioning was removed, both long and short, Treasury yields would be falling. With the Fed expected to raise the Federal Funds rate by 0.25% on Wednesday, which is a form of tightening, unwind $33 billion from its balance sheet next week and increase its balance sheet unwind to $50 billion per month starting in October, it will continue to put downward pressure on Treasury yields.

At some point, the speculators will be forced to exit their short positions, which should lead to a massive short-squeeze in the Treasury bond market. The end result should be considerably lower Treasury yields and higher Treasury bond prices.

  1. What happened to the stock market on Monday?

A new tax in the form of tariffs will be hitting American consumer’s pocketbooks in the near future as both the Trump Administration and China fulfilled their promises to implement another round of tariffs today. Rumors are swirling that the Trump Administration will be moving forward with a larger $267 billion tariff against China. Hopefully cooler heads will prevail before this trade dispute morphs out of control.

Asian and European equities were down and in early trade, U.S. stocks were down slightly as well. Today’s 2-year Treasury auction went out off without a hitch, although foreign bidders have backed off their interest in shorter-term Treasury bonds. Long-term bond yields didn’t react much to today’s auction, but short-sellers did get an early jump on trying to push yields higher.

According to Factset, 76% the of companies that have provided upcoming EPS guidance have provided a negative EPS guidance for the upcoming quarter. Should this percentage hold for all the companies in the S&P 500, it will be the highest number of companies issuing negative EPS guidance since the first quarter of 2016. With the stock market well ahead of earnings, this may not be good news for stock prices.

Stocks closed down slightly, and Treasury yields up slightly for the day. I expect the markets to be rather calm until the Fed’s press conference on Wednesday where they are expected to announce another 0.25% increase in the Federal Funds rate.

Physical gold continues to trade flat, which may be a sign buyers are holding a floor at $1,200/oz. The large gold mining ETF, symbol GDX, continues to run into a wall of sellers at $19. Unless the buyers can break through, it appears prices on the miners are headed lower.

Agricultural commodities were down slightly despite continued reports over the weekend of falling global crop yields and production. In this Friday’s update, I will share with you the real reason agricultural commodities are highly likely to experience a major move to the upside. Be sure to check it out!

  1. What happened to the stock market on Tuesday?

The stock market was quiet ahead of the Fed’s press conference tomorrow where the Fed is expected to raise the Federal Funds rate by 0.25%. The market will be watching for a change in language to determine if the Fed plans to be more aggressive with future rate hikes.

Treasury yields moved higher but were unable to close over 3.1% on the 10-year Treasury bond. For reason still unknown, at 5 am PST, the short-sellers got aggressive. With the speculators so deep in their short positions, they are desperate for any news that could lead to more people selling their bonds. Considering yields are back where they were in May, and short-sellers going all in to get yields back to their prior high, it suggests there may not be any more sellers left.

Today’s 5-year Treasury auction saw an absence of foreign bidders, so a larger amount of the auction when to the securities dealers. Securities dealers do not want to hold these bonds, and as they take on a greater supply, they will look to unload them. The problem for the dealers is that few people want to buy bonds in a rising interest rate market. After all, it is the dealers who have been telling people yields are going to rise.

The dealers have a built-in outlet for their bond holdings – all the short sellers. When yields fall, the short-sellers will be forced to become buyers. It just so happens that the dealers have a supply they will want to sell. Perhaps there is about to be a turn in the bond market as the dealers look to unload their inventories.

Consumer confidence moved higher, reflecting the recent rebound in the stock market. The consumer confidence data has become highly correlated with stock prices. While consumers remain confident, their expectations of an increase in pay are falling. Something is missing in the consumer confidence data because the retail sales data or the buying intentions data do not reflect an overly optimistic consumer.

The large gold miners, symbol GDX, continue to find a wall of sellers at $19. This continues to support a move down unless the Bulls can push through.

  1. What happened to the stock market on Wednesday?

The Federal Reserve raised the Federal Funds rate by 0.25%, as expected, and the stock market had the proper reaction. When the Fed tightens the money supply by raising interest rates, stocks should fall, and Treasury bonds should rise. All major stocks indices were down slightly, and Treasury bonds rallied off their recent bottom.

The Fed expects GDP growth to be 3.1% this year, 2.5% next year and slightly over 2% through 2021, even though their projections contradict the growth rate of the money supply. Every 0.25% increase in the Federal Funds rate decreases the money supply by approximately $60 billion. With the growth rate of the money supply 0.2% above the level where the economy experiences recessions and depressions, today’s rate hike is putting our economy one step closer to its next recession.

The Fed took the word, “accommodative” out of its press release, but when a reporter challenged the removal of this, Chairman Powell admitted policy was still accommodative.

The Fed remains perplexed about why wage gains aren’t filtering down to the rank and file employees but they remain optimistic it will.

The Fed believes the economy has been performing well primarily due to the gradual increase in the Federal Funds rate and their regular communications about monetary policy. In reality, ten years after the Great Financial Crisis, our economy is still on emergency monetary life support.

When asked about inflation, the Fed doesn’t believe we will experience a jump in inflation, even though Powell said the Fed wasn’t sure why inflation remains low. Even though the Fed doesn’t know why inflation remains low, they still expect inflation to increase. Perhaps Chairman Powell should study the effects of a zero-interest rate policy on long-term inflation expectations.

Chairman Powell did indicate the Fed was seeking the right balance of interest rates to keep the economy growing. The Fed continues to practice financial alchemy with the same adverse results in the end.

Federal Funds rate projections indicate another increase in December and three increases next year, with the expectation the Federal Funds rate will be normalized around 3.5%. When asked why 3.5% was the neutral rate, Chairman Powell said the Fed felt 3.5% was the appropriate long-term rate for the economy. In truth, it is Wall Street who has said 3.5% is the appropriate rate. Remember, the Fed never does anything Wall Street hasn’t already previously blessed.

What nobody seems to factor is the Fed’s balance sheet unwind. While the Federal Funds rate is now between 2.00-2.25%, when factoring the total balance sheet unwind, the Federal Funds rate at the end of September will be 3.38%. At the end of October, the implied Federal Funds rate will be 3.58%. With 10-year Treasury yields at a touch over 3%, the yield curve is inverted, meaning short-term yields are effectively higher than long-term yields. When the yield curve inverts, it is a sign there is something wrong with the financial system.

  1. What happened to the stock market on Thursday?

Asian and European equities were down following yesterday’s Fed rate hike. Foreign equities have been falling as the Fed tightens, which is what is supposed to happen. U.S. equities quickly shrugged off yesterday’s post FOMC drop as stocks quickly recovered from yesterday’s losses. Treasury yields were higher in early trading but were flat in overnight trading.

Pending home sales fell for the fourth straight month and are now back at 2014 levels. Thirty-year mortgage rates are close to 5%, which is historically low, but likely high enough to continue to drive buyers away.

Durable Goods orders jumped this month, but mostly on aircraft orders. Stripping out the transportation aspect of the report, to determine what businesses are doing, the proxy for business spending fell 0.5% last month. Meanwhile, defense spending was up 44%.

Treasury yields pushed higher into today’s 7-year Treasury auction but fell immediately after. While experts say this was a poor auction, foreign bidders took 62% of the offer. Foreign investors continue to be biased towards longer-maturity Treasuries.

Around 10 am PST, stocks began to fall and while they closed higher on the day, the selling persisted up to the closing bell. After moving higher in early trading, Treasury yields closed lower on the day with strong volume. Increasing volume from a price bottom is indication buyers are coming back.

Physical gold finally broke out of the $1,200/oz range and headed down. Gold is often sold by investors who need to sell, not those who want to sell. Investors continue to prop up stock prices and short Treasuries, and the money to do that has to come from somewhere. Gold sold off going into the last recession as investors faced margin calls and forced selling. While that may not be happening yet, investors are highly leveraged in this market.

Both gold and silver miners dipped on the day as Vanguard continues to liquidate positions from its gold mining fund. Even though July and August usually signal the bottom for this sector, a large seller can postpone that move. Experts in this space suggest once the selling from Vanguard is done, a rally may ensue.

Agricultural commodities triple-bottomed in the month of September. There is now a clearly defined price point where buyers are happy to buy. To avoid a short-squeeze, speculators will need to try to drive agriculture prices lower. Should they fail, the long-awaited rally may be at hand.

  1. What happened to the stock market on Friday?

Asian equities moved higher, but European equities tumbled on news from Italy that they are targeting a budget deficit of 2.4% of GDP, which is higher than expected. Italian stocks and bonds got hammered. U.S. investors don’t seem too concerned about what is going on overseas as equities moved higher in the morning.

Ten-year Treasury yields fell overnight and rose in early trading as short-sellers attempted to flush out yesterday’s buyers. After checking in with yesterday’s closing price, yields started falling again. The Treasury short-sellers are quickly finding themselves on the defensive as bond Bulls see an opportunity to squeeze out the record amount of short positioning.

Incomes rose +0.3% MoM but missed expectations of a +0.4% rise. Spending rose at +0.3% MoM as this represents the seventh straight month were spending has outpaced incomes. This trend is visible in the revolving credit data, which has been running at a +9% YoY rate. The Fed’s coveted inflation gauge, or Core PCE, ticked down slightly to a +2.0% YoY rate. As Chairman Powell mentioned in his press conference on Wednesday, inflation remains elusive.

Stocks were down slightly today and Treasury yields were mixed on the day. Treasury short-sellers were forced to aggressively sell today as Treasury yields are indicating that another top is in place.

One technical trader on FinTwit summed up the Treasury market by saying either the Bears are finally going to get the breakout they want or this is the mother of all topping patterns (in reference to yields). Looking at a two-year chart, it’s clear the long-bond is in a major bottoming pattern. I’ll cover this in more detail in the charts and video.

Physical gold rallied a little and the gold miners tried to but were rejected once again. As long as there are more sellers at this point, prices are likely to fall until a larger pool of buyers is found.

Agricultural commodities, which I am covering in depth in this week’s weekly update, held their triple-bottom again. Unless the short-sellers can drive prices lower, a bottom may be in place. Considering there is weather-related crop damage in other parts of the world, and yields and production are falling, prices should start rising soon. Not to mention we are heading into a solar minimum, which has been a historically strong time for crop prices.