One priority for all of us at FS Insight is to make you better at making investment decisions for yourself. In this context, it means providing some ideas about using commodities trends to get ahead of equity markets.

On a macroeconomic level, commodities prices can offer clues about the current and upcoming state of the economy that can be useful to the equities investor.

For example, many observers believe that commodities prices can be used as a leading indicator of inflation. The idea is simple: increased prices for raw materials (steel, for instance) mean higher costs for manufacturers of goods that use raw materials (car makers, for example.) And eventually, those higher costs will be passed onto retail consumers in the form of higher prices.)

We should stress that this view is far from universally held, with many believing that the evidence in favor of it is tenuous at best. As with the price of a given stock, a number of factors can affect the inflation rate, and the effect of higher commodities prices can be canceled out by other competing factors. Nevertheless, in a market where every investor is looking for an edge, keeping an eye on commodities prices can give you a more complete and thus, more accurate picture of the economy and the market.

Commodities price fluctuations can also be a useful measure of sentiment. As much as we examine data and look at economic, industry, and company fundamentals – and rightly so, to be clear – another general principle of investing often cited by Tom Lee is this:

Confidence drives markets.

Investor confidence changes faster than fundamentals, as Tom likes to say. When investors start feeling uncertain about the stock market, the economy, or the state of the world in general, they start to allocate assets into one specific asset: gold.

A quick look at recent history illustrates this. Gold prices started to spike upward in mid-March 2020, just as President Trump declared COVID-19 a national emergency and as the state of California launched the first statewide stay-at-home order in response to the growing pandemic in the United States. Similarly, gold prices began a small spike in early February, just a few weeks before Russia invaded Ukraine on March 24, 2022. Note that the spikes began as anxieties rose, but collapsed after the source of anxiety actually manifested.

Given this trend, steadily increasing gold prices could be a sign of investor market anxiety about a potential, imminent market-moving event. If nothing else, that might be a good reason to scrutinize your portfolio for potential vulnerabilities.

Next time

We hope this has given you a basic education into what commodities are, and how paying attention to commodities prices can benefit stock investors. In a future installment we will discuss whether you should incorporate commodities investments into your portfolio, and some ideas as to how you might do so.