People have asked me in the recent week why I don’t buy this commodity rally. I gave it some thought, and came to a conclusion that it is like flipping houses.
Before you continue reading, what did you think of those that flipped houses? What did it do to the market and what are the ramifications?
An individual that flipped houses bought a house, and then sold it for a profit. They might have fixed a few things, but more likely than not they did nothing and expected to make free money.
When you buy a commodity what do you expect to do? You expect to sell the commodity at a profit. When you buy commodities you have no intention of using the commodity. You are in fact standing between the buyer and provider of the commodity with NO ADDED VALUE! This is akin to flipping houses because most house flippers provided NO ADDED VALUE!
The ramification of this is that it will ruin the economy with a recent example being Schmolz-Bickenbach.
A negative impact on the income statement came from the unexpected, and historically unprecedented, wide fluctuations in the purchase price for the alloying element nickel. The all-time record peak price that was attained in the second quarter of 2007 was followed in the second half-year by a sharp fall. This caused our customers to postpone take-up of ordered volumes, as well as a temporary decline in orders; there was a consequent unforeseeable need for value-adjustment of our inventories, which exerted a substantial negative influence on profit. The valuations that were made on the date of the balance sheet limit future risks to a minimum.
Companies that provide commodities and consume commodities have a relationship where they want to maximize profits, while minimizing costs. Neither party is interested in destroying the other because it would ruin the relationship. This is why I blogged earlier on how in the future the buyer and sellers would iron out their agreements.
What you have to realize is that companies like Schmolz-Bickenbach can wait out the commodity crisis. Can you? Remember if you buy commodities you buy futures and futures expire. When your contract expires you can either take the difference or take possession of the commodity. And most likely you will need to take the difference and that can mean a huge hit to the pocket book. Commodities are too risky for what they are worth.