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Commodity Investing Shell Shocked
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New York: August 16, 2010
By John Stephenson

The powerful economic growth of the first half of 2010 appears to have fizzled as economies around the world have slowed to a crawl. No longer will economists have to warn about the prospects of a dramatically slower second half of 2010, as it appears that the dreaded slowdown has already arrived. For many, this has come as a surprise. Low interest rates, boatloads of fiscal stimulus and a recovery in world trade were expected to propel global growth for at least the first half of this year.

In the U.S. , weaker-than-expected export numbers and slower inventory restocking caused the U.S. economic engine to sputter in June. The result was a revised second quarter growth rate for the American economy of just one and a half percent. And that's sparked fears of a double-dip recession in the U.S. , as stimulus expires and austerity measures begin to take hold in Europe.

In Europe , things seem much better. Germany has resumed its traditional role as Europe 's economic locomotive, as exports led the country to its fastest growth rate since German reunification 20 years ago. Second quarter economic growth in Germany surged 2.2 percent from the previous three-month period, which helped propel the European Union to a 1 percent growth rate for the quarter. For the first time since Europe's debt problems flared in May, the continent seems to be on more solid economic footing than that of the United States.

But while Germany 's output was impressive, the rest of Europe has been a drag on overall growth. The German economy accounted for almost two-thirds of the euro area's growth in the second quarter, according to the European Union's statistics office. Countries in Europe 's periphery continue to slow weak or negative growth, hampered by their excessive debts and austerity measures. Spain continues to struggle with 20 percent unemployment, which helped slow its overall economic growth to just 0.2 percent in the second quarter. In Greece , growth was steeply negative as the country has hit the debt wall—unable to borrow to finance growth, and a powerful recession has taken hold.

With S&P 500 reporting season 90 percent over, attention is shifting from the stellar earnings numbers of the second quarter to the not-too-healthy state of the broader economy. With corporations turning more cautious and guiding stock analysts toward a softer third quarter, stock analysts have been busy downgrading third quarter earnings estimates at a furious clip.

Making matters worse, the American job creation machine has been stuck in reverse, with a loss of more than 7.7 million jobs since the start of the recession. This dismal job picture stands in sharp contrast to America 's historical track record of job creation during a recovery. In past recoveries, job growth is usually well under way 31 months after the onset of the recession.

Faced with the prospect of sharply slower growth in Europe and America , it's too early to be jumping on Wall Street's bandwagon by overweighting stocks in your investment portfolio. Recently the hot area for investing has been the bond market, as investors have flocked to the relative safety of bonds. U.S. bond funds have posted net inflows for 72 of the past 73 weeks as billions of dollars have poured into U.S. Treasuries and municipal debt. But with record low yields, investors are cautioned that this may not be the panacea that some people expect.

Banks remain by far the largest holders of government debt, making them a critical lynchpin in the bond market. And if heavily indebted governments were to default on their obligations, bonds would plunge in value, sending the financial system into crisis mode as happened during the 2008/2009 period.

Agricultural stocks have been rocketing higher, propelled by a combination of weather related concerns and export bans. In a surprise move, Vladimir Putin, Russia 's prime minister, slammed the door shut on exports of grains and other agricultural goods in response to a massive drought affecting the country's wheat crop in the Black Sea region. This summer has seen some extremes in weather, from the sweltering heat along North America's eastern seaboard, to devastating floods in Pakistan and droughts throughout Eastern Europe . And while the driver for base metal and energy stocks is global economic output, for agricultural stocks it's weather.

Rising crop price is a bonanza for wheat farmers throughout exporting countries such as Canada and the U.S. , but for others along the food chain, it's a decidedly bad news story. As I point out in my recently released book The Little Book of Commodity Investing (John Wiley & Sons, 2010), rising grain prices impact not only the price of your daily bread, but also the cost of milk and meat. Soybeans, corn, and wheat are used for cattle and pig feed, therefore, any rise in grain price directly affects beef and pork prices. By some estimates, a 30 per cent rise in grain prices translates into a 10 per cent increase in livestock prices (with a three- to six-month lag).

While there are pockets of profitable opportunities in the stock and bond markets, the better bet may well be to wait until better economic times arrive before overweighting stocks in your investment portfolios. The stocks of commodity producers will be huge winners in the future (see my recent appearance on CNBC's Fast Money), once economic growth returns, but for now, dividend paying stocks are a great place to take shelter from the economic storm.

StephensonFiles is a division of Stephenson & Company Inc. an investment research and asset management firm which publishes research reports and commentary from time to time on securities and trends in the marketplace. The opinions and information contained herein are based upon sources which we believe to be reliable, but Stephenson & Company makes no representation as to their timeliness, accuracy or completeness. Mr. Stephenson writes a regular commentary on the markets and individual securities and the opinions expressed in this commentary are his own. This report is not an offer to sell or a solicitation of an offer to buy any security. Nothing in this article constitutes individual investment, legal or tax advice. Investments involve risk and an investor may incur profits and losses. We, our affiliates, and any officer, director or stockholder or any member of their families may have a position in and may from time to time purchase or sell any securities discussed in our articles. At the time of writing this article, Mr. Stephenson may or may not have had an investment position in the securities mentioned in this article
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