Wishful thinking on interest rate cuts is catching up to investors.
The market started the year expecting around seven interest rate cuts in 2024. Traders are now penciling in just one cut this year.
A few are even entertaining the thought of another 0.25% rate hike.
The reason? Stubbornly high inflation.
The Federal Reserve has a 2% inflation target.
After being as high as 9% in 2022, the Consumer Price Index (CPI) fell to 3.4% in April.
But the CPI has stayed around that level since last June… refusing to return to the Fed’s target.
These ongoing high inflation levels could mean trouble for the overall stock market.
But it’s not all bad news…
In fact, high inflation could be just the catalyst one corner of the market needs to move higher.
This sector delivered 65% gains as inflation ramped up into 2022.
And it could be setting up its next attempt at a big breakout…
Profiting From High Inflation
When the economy is grappling with high inflation, one sector shines.
I’m talking about commodities.
Don’t just take my word for it. Numerous studies from academics and investment managers show just that.
Take a look at the chart below.
It compares how a broad commodity index has performed during different levels of inflation going back over 50 years. The index includes products like oil, gold, and even cocoa.
When inflation stays above the Fed’s 2% target, commodities have historically delivered an average annual return in the double-digits.
During the really high inflation periods above 4%, those returns jumped to over 20%.
With those stats in mind, the chart setup of one particular fund has my attention…
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Commodities Are Approaching a Breakout
CPI inflation first rose above the Fed’s 2% target back in March 2021. It ultimately peaked at an annual gain of 9% in June 2022.
During that stretch, the iShares S&P GSCI Commodity-Indexed Trust (GSG) gained 65% while the S&P 500 fell 5%.
Since the peak in 2022, GSG has pulled back as the CPI fell nearer to the Fed’s 2% target.
But starting a year ago, something interesting started happening with GSG’s chart.
First, the relative strength index (RSI) began building positive momentum last May.
As GSG bounced around the $18.75 level (shaded box), the RSI started making “higher highs” (dashed line).
That recent low in GSG happened at the same time that the CPI stopped slowing.The CPI’s annual gain fell to 3% last June and hasn’t slipped lower since.
And look at what’s happening with GSG’s price action lately.
Since mid-December, GSG has rallied 13%. That rally has brought GSG back near a key level at $23.
Take a look at the chart with this price level shaded:
The $23 area is a resistance level going back nearly two years. At the same time, GSG keeps testing support at the 50-day moving average (MA, blue line).
Here’s what I’m watching for next.
I want to see GSG hold onto support at the 50-day MA, followed by a breakout over the $23 level.
If that happens, I’ll watch if RSI confirms that strong price action with a move over 60.
If high inflation can push GSG over the $23 level, that could mark the beginning of the next bull run in commodities.
Regards,
Larry Benedict
Editor, Trading With Larry Benedict