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The Fed Gives Green Light to Commodities

On Tuesday, August 7, 2007, Fed Chairman, Ben Bernanke, presided over a Fed meeting that refused to cut interest rates to calm a growing crisis in the financial markets.  Two days later, the Dow Jones Industrial Average plunged 387 points.

By the 9th of August, central banks, led by America’s Federal Reserve, began “injecting” the equivalent of about a third of a trillion dollars ($325 billion) into the world’s money system.

Indeed, since the stock market crash of 1987, the U.S. Federal Reserve’s response to every financial crisis has been an interest rate cut.  And while targeted assets, such as real estate and stocks, have benefited, this soft money policy is now being pursued at the peril of its consequences, namely inflation.

* US Dollar index is currently at 15 year lows.

Despite skyrocketing commodity prices, the Federal Reserve continues to see inflation as low and “contained”. How can this be?

The answer is simple: Good politics, misguided policy.  In the 1970’s, with food and energy prices inflating rapidly, President Nixon called upon then Fed Chairman Arthur Burns to create a more politically favorable measure of inflation. In response, the “core inflation” rate, which is the Consumer Price Index (CPI) minus food and energy costs, was created.

The justification for using the CIR to adjust monetary policy is that short-term volatility in food and energy prices “distorts” the true inflation picture, and therefore “core inflation” is more reliable.  The problem with using this method is that during periods of sustained upward price movements, inflation is underreported. 

Changing the calculation method is a clever tactic used by economic policymakers to accelerate monetary inflation (lower interest rates and massive credit creation) while disguising the true economic consequences of these activities.

So, with Fed Chairman Bernanke threatening to use “all available weapons” to bailout Wall Street, commodities, once again, will be given the green light to move higher. 

As an investor should consider adding commodities, which are positively correlated to inflation, to your investment portfolio?

At RCG Alternative Investments, we provide our clients with guidance and high quality investment solutions to help them achieve optimal portfolio diversification.

Contact us at (877) 250-3583 or at info@rcgai.com to find out how we can help you.

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Disclaimer The risk of loss in trading futures and options can be substantial, therefore only genuine "risk" funds should be used in such trading. Futures and options may not be a suitable investment for all individuals and individuals should carefully consider their financial condition in deciding whether to trade. Option traders should be aware that the exercise of a long option will result in a futures position. Information herein has been obtained and prepared from sources believed to be reliable; however no guarantee to its accuracy is made. Comments contained in these materials are not intended to be a solicitation to buy or sell any of the commodities mentioned. Past performance is not indicative of future performance results. Opinions expressed herein are the options of the author only and not the opinion of any firm the author may be affiliated or associated with.