August 5 – It’s another “risk-off” day on Wall Street, as Wall Street sheds the froth of recent months, with the fear index now at levels that have traders running for cover in the commodity sector, as well as the equities. Global stock traders fear a global recession, with Middle East geopolitical risks adding to those fears as we wait to see if the war spreads to directly involve Iran? The VIX traded above 65 this morning, which is only the third time that the fear index has been this high of the past several decades – the other two being the Great Recession of 2008 and the pandemic of 2020. It’s been my observation over the years that it is difficult for any commodity asset to sustain a rally when the VIX is trading above 30 unless that asset has a strong story. As such, we’re seeing a lot of money flowing either to the relative safety of government securities – which drives down yields as a result – or to the sideline until the panic selling eases. The VIX is currently trading near 55, while the dollar index is trading at five-month lows near 102.4 as we see a massive unwind of the Japanese yen carry trade after last week’s rate hike by the Bank of Japan. Don’t under-estimate the influence of this carry-trade unwind. Yields on 10-year Treasuries are trading near 3.69%, after setting 13-month lows overnight, while yields on 2-year Treasuries are trading near 3.73% after setting fresh 16-month lows. Ironically, the yield inversion that has been forecasting a recession for the past couple of years is all but eliminated this morning, suggesting that a recession may be around the corner. Crude oil prices probed below $72 to post fresh six-month lows, while the grain and oilseed markets mostly lower as well.
Perception is reality in the markets, and perception has changed. And it should be noted that it didn’t take much to change perceptions from one day to the next. The Federal Reserve gave the markets what it wanted – the closest thing to a promise that it could expect that we’ll see rate cuts starting in September, and possibly multiples of them. The jobs report on Friday by itself wasn’t that bad, but it reflected momentum toward a softening jobs market. The unemployment rate is still at 4.3%, which is a historically low number. The economy still created 114,000 jobs in July, which is low, but not anything we haven’t seen before. But suddenly traders got nervous with stocks trading just below record highs, and they started to panic. Keep in mind that our economy is a consumer-driven economy that is driven by consumer sentiment. Consumer sentiment is heavily influenced by the stock market, so it tends to collapse when the stock market collapses, leading to less consumer spending, which then results in a downturn in the economy. That then can lead companies to lay off employees, resulting in even more consumer fear that perpetuates the cycle. In other words, Wall Street’s fears become self-fulfilling. By worrying about a recession, Wall Street can indirectly and unintentionally create the dynamics that create a recession. It should also be noted that it’s normal for economies to ebb and flow, but Algo computer trading in today’s world amplifies everything, helping to create the big swings in market emotions.
We live in a world with little patience for the downside portion of these cycles. As such, the tendency of lawmakers and policymakers is to think that they “have to do something.” As such, there will be calls in Congress for hearings to inject stimulus into the economy, and don’t be surprised if we see the Fed hold an unplanned meeting to consider rate cuts (yes plural) ahead of the September meeting. At least one Fed member has already been on a business network this morning stating that everything is on the table. Then the debate on Wall Street will be whether the proposed measure is enough or not. Remember, that perception is reality on Wall Street. In the end, Wall Street’s temper tantrums tend to give it what it wants - more money to feed the beast.
Commodity traders are also shedding risk exposure today, largely moving money to the sideline, or simply riding their short positions lower. Expectations of a recession – perhaps global – means less demand for commodities. At least that will be the perception as long as fear remains high. The energy sector is one place where we tend to see that play out the most. People engage in less discretionary travel when they’re worried about the economy, consuming less energy as a result. The same mindset tends to drive price action across much of the commodity sector, including the grain and oilseeds. The good news is that cheap prices tend to create demand, but not before we see consumer confidence restored.
The next two weeks should see very mild temperatures across the bulk of the Midwest. There will be dry pockets, while many areas will also see showers. But temperatures are the primary driver of yield expectations in August. We can be on the dry side as long as temperatures are favorable. Mild temperatures ease moisture requirements for the crop, while also lengthening the grain maturity process. That allows for larger seed development. A 5 – 10% larger seed results in a similarly larger overall yield. This is something that crop ratings typically do not pick up on, resulting in surprises to the upside for yields when the combines roll next month.
