Wikinvest Wire

Fun with the Michael Masters report

Monday, May 26, 2008

Among many other things that Michael Masters might have you believe is that soaring commodity prices are somehow unprecedented in history. The chart below was an integral part of his congressional testimony (.pdf) last week when he asserted that institutional investors "are one of, if not the primary, factors affecting commodities prices today."
Look at those level prices up until the point that institutional investors starting moving money out of stocks and bonds and into commodities. That's some pretty convincing chart-work there.

Get the pitchforks! We'll teach those "index speculators" a thing or two.

But didn't commodity prices rise sharply back in the 1970s?

Apparently not - at least not according to the "S&P GSCI Spot Price Commodity Index", an index that is new to me. The venerable CRB Index seems to tell a little different story about commodity prices over the last 40 years.
In fact, that move from 1972 to 1980 makes the recent move look a little tame by comparison. Note that the chart above is a year or so old - the CRB currently stands at about 430 which is a little over double the level in 2002.

By comparison, the index more than tripled from 1972 to 1980.

Maybe it's just the index - "spot" GSCI versus CRB - that accounts for such a big discrepancy. Using data from Dr. Craig Israelson's paper The Benefits of Low Correlation, this is what a $10,000 investment in the "non-spot" GSCI would look like since 1970.
That looks like a pretty steady progression over the last 40 years with a big surge over the last decade.

But, as I learned long ago and discussed in "Fun with multi-decade charts", for a single curve going back almost 40 years, you really should use a log scale.
Wow - that's a completely different curve than the first one in this post - the one that was presented to Congress last week as "proof positive" of the undue influence of speculators on commodity prices.

You know, I've got a couple speaking gigs under my belt now, maybe I should see if I can present my data before some Senate panel. Maybe we can talk about Alan Greenspan and fiat money while we're at it.

Note: There will likely be more on the Masters report later in the week.


UPDATE: Monday, May 25th, 1 PM PST

Here's the CRB "spot" index going all the way back to the 1960s - it tells much the same story as the CRB Index above. When it rises another 30 percent or so we can all say, "Gee - that's as big as the increase in commodity prices from back in the 1970s (when there were no index speculators)".

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Adam White said...

The GSCI spot index is composed of the spot prices of the 24 commodities in the GSCI. The GSCI index includes the spot index plus "roll yield" which you get from constantly rolling your futures position in backwardation and the interest that you get from your margin. For 30 years commodity prices have not kept up with inflation because the marginal cost of production (long term equilibrium price) has been coming down over time. It does not make sense when talking about commodity prices to include the interest on your margin or the amount you get from your trading strategy. By the way the CRB is also based on futures prices.

Tim said...

Thanks for the clarification Adam. Could you point me to a chart of the GSCI spot index that goes back to 1970 or further.

I've seen data that shows the GSCI spot index up closer to 350 in 1980 which makes for quite a different first chart above.

Adam White said...

When Goldman Sachs created the GSCI in 1991 they created a hypothetical time series back to 1970. That is why the index starts at 100 in 1970.

By the way the footnote that accompanies Mr. Masters statement that commodities have increased more than any time in U.S. history is taken from data in Frank Veneroso's report where he gives a chart dating back to 1749. The report is on the home page, and it's page 5 or 6 in the report.

Emil M. said...

While Adam's point about GSCI vs. Spot GSCI is quite important (interest on non-invested assets during the 1980s played a large role in the long-term performance of GSCI investments), your broader point has great merit. This was presented to Congress as an unprecedented development where cause and effect were clear and it is anything but that. The chart that is the centerpiece of the paper is very misleading for reasons you have stated, as if he started with the conclusion and worked backwards from there.

Tim said...

Thanks Adam/Emil - there's lots of good discussion on this topic over at the WSJ Economics Blog

Anonymous said...

maybe if we had positive real interest rates, we wouldn't be having this discussion....and by positive real interest rates, I don't mean using the government's rendition of inflation....

Anonymous said...

Are you actually trying to contradict Michael Master's findings? Have you read the report? I have smoke soming out of my ears just trying to to think of a way you could contradict that report.

Anonymous said...


This should ALSO make its way in front of Congress. IF, and thats a BIG IF, they're doing their job (and NOT the job of some special interest)they'd have to see how biased and in fact dishonest, the original testimony/report was.
Thanks for leveling the field.

Anonymous said...

The rise in the 1970s was due to the Oil Embargo of 1973-74 and the subsequent inflationary period of the late 1970s as confirmed by official inflation measures.

Other than the confirmed financialization of commodities, we have no other exogenous factors or inflation affecting the price of commodities. The one exception now (in 2010) is the fall in crop yields causing some supply pressures. It's obvious speculation is the major contributor to the dramatic rise in commodities this decade.

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