Around 33 centuries ago,
one of the most famous men in history hiked up a mountain probably now known
as Jabal al Lawz in
today’s northwestern Saudi Arabia. There Moses met with God. God Himself carved commandments into
stone tablets for Moses to share with His people, the Israelites. These commandments eventually became a
major part of the legal foundation for western civilization.
One of these commandments
preserved in the book of Exodus is “You shall not bear false witness
against your neighbor.” While most obviously commanding us not
to lie, I believe this commandment goes well beyond lying. It probably also includes presenting
true information in such a way that it will likely mislead when
interpreted. A modern word that
comes to mind along these lines is “nuancing”.
Sadly the financial markets
are full of this kind of thing. Charts,
with their wealth of information, are one of the easiest ways to
intentionally mislead others. Depending
on the analyst’s selection of data to use, time period to cover, axis
type of chart (linear or logarithmic), and vertical axis span, the obvious
interpretation of a chart can vary radically. It is not hard to present true information yet know it will be
misinterpreted.
I have a personal anecdote
on this. When I was around 13
years old or so, one of our national Senators came to speak at my
school. This was well before the
PowerPoint days so he presented his charts on big sheets of paper on
easels. The Senator showed us one
chart with a very sharp rate of increase. After he finished, I walked down to
the front of the gym to take a closer look. It turns out his vertical axis
wasn’t zeroed.
What had looked like a
mammoth 500% increase from the crowd was probably less than 10% when the
tiny-labeled non-zeroed vertical axis was
considered. In my young
self-righteous fury, I actually wrote this Senator a letter chastising him
for his misleading chart. His
office even answered me. It was
the first time in my life, and the last time, that I ever bothered writing to
a politician. It’s as
useful as talking to a turnip.
At Zeal we love charts
since they offer such an awesome and unparalleled perspective. We have already custom built thousands
of different charts over the years and I am looking forward to personally
building thousands more. But
every time I create a chart, I try to carefully consider how it will likely be interpreted. I want my charts to accurately reflect and illuminate the
particular market I am researching.
Unfortunately today a
terribly misleading chart is tainting perceptions of the mighty global
commodities bull. I cannot count
the times I have seen analysts and investors use and misinterpret it. Most of these misinterpretations are
unintentional, due to simple naiveté. But disturbingly I have also seen it
used to intentionally mislead when an analyst knows better. This chart bearing false witness is a
big problem.
If it was an obscure chart
few investors considered, I wouldn’t care all that much. But unfortunately this false-witness
chart happens to be of the famous CRB index. The CRB index, of course, has been the
flagship commodities index for decades.
Having the CRB mislead on commodities’ true bull-market progress
is as appalling as if the NASDAQ failed to reflect technology stocks’
true performance.
The reason CRB charts are
bearing false witness today is because this index’s new custodians radically changed its composition back
in July 2005. The CRB’s traditional equal weighting and geometric
averaging among its component commodities were trashed. This tenth revision of the CRB created
a new version of this index unlike any before in history. I wrote an essay back then explaining all of this.
The unprecedented
tenth-revision CRB, or CRBr10, is utterly dominated by energy. Energy comprises 39.0% of this new
index compared to 17.6% in the ninth-rev CRB, the CRBr9. So when oil corrected in late 2006,
the new CRBr10 plummeted. The CRB’s total breakdown led many analysts, including
long-time contrarians, to wrongly conclude this commodities bull was
over. I wrote another essay in January 2007
pointing out how horribly flawed it was to assume the CRBr10 and CRBr9 were
comparable.
After that essay, some
traders graciously wrote in to tell me about the CCI, or Continuous Commodity
Index. The CCI is really the
traditional CRBr9 we are all used to.
It was created to preserve the historical ninth-rev CRB interpretation
of commodities’ performance in this new CRBr10 era. In February 2007, I wrote an essay on the
CCI. I was so thankful and
relieved to learn of its existence because it restored the accuracy and
comparability of the traditional flagship CRB index.
Now a year later it is very
disappointing to see most analysts and investors continue to focus on the new
CRBr10 rather than the old CRBr9 in the form of the CCI. The CRBr10 is fine when viewed in
isolation only since its July 2005
birth. But when it is grafted on
to the old historical CRBr9, it bears false witness. Almost no charts acknowledge this big
break in continuity and hence their obvious interpretation is hopelessly
flawed.
So this week I want to
revisit the true CRBr9 in its new life as the CCI versus the CRBr10. Your perception of commodities
performance in 2007, and their future prospects, will be very different depending on which CRB you ponder. While commodities continue to look
rather anemic from the CRBr10 perspective, they
look amazing from the true historical CRBr9 perspective.
In these charts, the CRB is
rendered in blue. Up until July
2005, it is the ninth-revision CRB.
After July 2005, the tenth-rev CRB is grafted in. This is the way virtually all analysts
today present the CRB, with no note of the huge discontinuity. Meanwhile the new CCI, the comparable
continuation of the CRBr9, is rendered in red. You have to consider it to truly
understand the CRB’s progress in historical
context.
You really have to journey
back in time to understand the devastating impact of the CRB’s
false witness. Between late 2001
and mid-2006, the CRB index was in an absolutely beautiful secular
uptrend. Its support was rock
solid and never failed. If an
investor wanted to know how commodities were doing as a sector, all he had to
do was check out a CRB chart. Due
to the natural smoothing effect of the CRB’s
geometric averaging, you couldn’t ask for a nicer and tighter uptrend.
Then stealthily in July
2005, the tenth revision of the CRB index since its 1957 birth went into
effect. It started trading on
July 12th, a quiet time of the year when the markets don’t get a lot of
attention. And there really
weren’t a lot of folks talking about this transition. I wrote a single essay on it,
published on the quiet July 4th vacation week, and then got back to more
tradable analysis. So not many
traders knew the CRB had even changed.
And for the tiny fraction
that did know, things didn’t look all that different initially. As this chart shows, the CRBr10
dutifully continued up within the CRBr9’s tight secular uptrend for a
year after the revision happened.
So by the time mid-2006 arrived, virtually everyone in this sector had
long forgotten about the obscure tenth revision of the CRB. Back then we all charted the CRB
across its tenth revision as if it was perfectly historically contiguous.
Then in late-summer 2006,
the oil price started plummeting.
In the old CRBr9 days, this index wasn’t heavily influenced by crude
oil. Oil was only 5.9% of it by
weight and the geometric averaging greatly smoothed out individual commodity
impacts. But in the CRBr10 oil
was suddenly its largest component by far with a massive 23.0% weighting, 4
times higher. And the traditional
geometric averaging no longer existed to moderate its impact on the entire
index.
For the first time in its
entire bull, the CRB plummeted. It
sliced through both its rock-solid support and key 200-day moving average
like a hot knife through butter. Investors
were shocked and terrified. Since
everyone had long forgotten the CRB revision, they truly believed the same old historical CRB had
violated its long secular support.
The sky really was falling technically in CRB-land, so commodities
Armageddon looked to be upon us.
This breakdown led to all
kinds of very bearish theories on commodities. Even former commodities enthusiasts
were falling all over themselves heralding the end of the commodities bull
due to this high-profile CRB breakdown.
But the problem was this breakdown was
false. The CRBr10 was
breaking down, but it wasn’t
comparable to anything historically, especially the CRBr9’s uptrend. The standard trans-revision CRB chart,
as presented and interpreted, was bearing false witness.
I again wrote about the new
oil-dominated CRB in October 2006,
trying to help investors see the real picture. But I felt like the little Dutch boy
trying to plug the dike as it was hopeless trying to stop the flood of
commodities despair. At that
time, unfortunately I wasn’t yet aware of the CCI so I had no CRBr9 to
compare to the CRBr10 in my charts.
So I had to ask investors to take it on faith that the old CRB would
not have corrected anywhere near as hard with oil as this new CRB did.
Before that breakdown, the
CRB carved its bull high in mid-2006 which was 99% above its early 2001
lows. Since then, the headline
CRB has just ground sideways. It
did rally in 2007, but as of the end of the year it still hadn’t
managed to eclipse its May 2006 high.
To a technician, the headline CRB looks like it has just carved a
massive double top ahead of a secular bear. Thankfully this is a false witness.
In these charts, the only
truly comparable lines are the blue CRBr9 one up until the tenth CRB revision in mid-2005 and the red CCI one
after. This is the only way the
CRB index is constructed and calculated the same way to ensure perfect
comparability. While the headline
CRBr10 swooned, the historical CRBr9 was stronger than ever living on in the
form of the CCI. The true CRBr9
just hit all-time nominal and bull highs!
In December, on fully seven
separate trading days, the CCI ascended to new closing highs. They are the highest levels yet seen
in this bull and the highest nominal
levels ever. But if you adjust
the CRB for inflation as is necessary and prudent over
multi-decade timespans, this index would have to
soar well over 1000 today to hit a
new all-time real high.
Thus bull to date, the
truly comparable CRBr9 was up 160% as of late last month! And technically-oriented traders
should note that its secular support was
never broken! Not only did
the CRB not break support, but its old secular resistance actually became new
higher support as the CRB broke out of its secular uptrend in early 2006
ahead of oil’s sharp correction.
And that infamous oil correction really didn’t even faze the
CRBr9 due to oil’s modest equal weighting and the old-school geometric
averaging.
So as you can see, your interpretation of late 2006 and 2007 in commodities is
radically different depending on whether you consider the new CRBr10 or the
traditional CRBr9. Either way,
the CRBr10 is simply not comparable
to the CRBr9 in past years. So
even if you like the CRBr10, and it does have its merits, it is illogical and
misleading to graft it on to the CRBr9 with no explanation. Hence I propose big warning symbols on
all trans-2005 CRB charts to stop them from bearing false witness and
misleading investors.
This vast gulf between
ninth-rev and tenth-rev CRB performance is even more interesting when viewed
just since the tenth revision. The
traditional CRBr9 in the form of the CCI held pretty tight with the new
CRBr10 for its first quarter of existence, but then the CCI started to pull
away. This gap has only continued
to widen since. Actually this is
rather curious considering the CRBr10’s huge oil weighting and
oil’s massive upleg in 2007.
Since the day the CRBr10
went live, it is only up 15%. Meanwhile
the CRBr9 in CCI form has soared 52%!
There is really no comparison between the CRBr9 and the CRBr10. In your mind, carefully consider the
blue CRBr10 line in isolation and then the red CRBr9 line in isolation. Your interpretation of this
commodities bull’s performance of late will vary tremendously based on
which CRB you are pondering.
One has broken its support
and 200dma, and is just now clawing back up to what really looks like a
secular double top. In pure
technical terms, this is not a market I’d want to invest in. Meanwhile the other one looks
incredibly bullish. It is
climbing ever higher in a beautiful uptrend while periodically bouncing off
both its support and 200dma like clockwork. And its rate of ascent is not extreme
so it certainly looks like a healthy secular bull, not an out-of-control
bubble.
In CRBr10 terms, 2007 was a
strong year but no new highs were made and commodities were merely recovering
to a potential double top. But in
CRBr9 terms, 2007 was an amazing
year with consistent new highs emerging within a healthy unfolding secular
bull. There was nothing at all to
be concerned about technically and the uptrend points to continuing higher
prices ahead.
So whether you are a
commodities investor, speculator, or analyst, please realize that
today’s CRB is nothing at all like the
historical one you remember from the first half of this decade. Today’s CRB is only comparable
back to July 2005, and it is utterly dominated by oil. In a very real sense, the CRBr10 is
largely an oil proxy. It really
doesn’t reflect other commodities’ progress all
that well.
If you are trading
commodities or commodities stocks, know that any CRB chart that stretches
back past mid-2005 is not comparable.
It compares apples to oranges and is totally useless across the tenth
revision. So any time you see
technical CRB conclusions reached across mid-2005, know they are
nonsensical. At best the person
reaching the conclusions is naïve and at worst he is intentionally
misleading you. Any long-term CRB
chart that mixes the CRBr9 and CRBr10 bears false witness to this commodities
bull’s true progress.
If you are an analyst, and
are blessed to be in a position to influence traders, for heaven’s sake
please don’t use long-term CRB charts to make points! Use the CCI instead, which is
perfectly comparable from today all the way back to the ninth CRB revision in
late 1995. If you are using
trans-2005 CRB charts to make technical points, and your readers read an
essay like this one, you will instantly and irrevocably lose lots of
credibility. And in this business
credibility is everything. We
have to tell the truth, always, and
never bear false witness.
Any comparison of the CRB
across its radical tenth revision in July 2005 is hopelessly flawed. The CRBr10 is nothing like the nine
CRB revisions that came before it.
It is an entirely new beast altogether. Now the CRBr10’s calculation
methodology is valid, and superior in some ways, but it is simply not
comparable with the past CRB. If
you want an accurate and true reflection of this commodities bull’s
progress, you have to use the true historical ninth-rev CRB now known as the
CCI.
So as we head into 2008,
please realize that today’s tenth-rev CRB is essentially just a proxy
for oil. Oil’s swings
utterly dominate this index. When
oil corrects soon here as it ought to, the CRB is
going to get pummeled down hard. It will indeed look like a double top
on a long-term chart. And the
commodities Chicken Littles will come out of the
woodwork boldly proclaiming that “the sky is falling!” Don’t believe it.
Instead look to the
old-school Continuous Commodity Index, where the historical ninth-rev CRB we
all know and love lives on in new form.
An oil correction will weigh on it too, but the CCI will probably only
get dragged back down to support at worst. I am all but certain that even the
most wicked oil correction you can imagine won’t be enough to cause the
CCI to fall under its support and break its uptrend. With oil’s traditional equal
5.9% weighting and geometric averaging, it just can’t do that much
index damage.
At Zeal we live to study
and trade the markets, so we really pay close attention to stuff like the
tenth CRB revision that can really trip up investors who aren’t aware
of it. As students of the markets
we constantly strive to deeply understand them. We have to be accurate and truthful in
our analysis and we don’t want to mislead anyone. So we won’t foist off some
long-term chart as comparable if it is not in reality.
Even before I learned of
the wonderful CCI’s existence, we remained
big commodities bulls through the entire CRBr10 breakdown. From our research we knew it was just
a temporary oil thing. And we
continue to be very bullish today, buying elite commodities stocks to amplify
the gains in their underlying commodities. Despite periodic bearish analyses
claiming the contrary, this commodities bull is very much alive and well,
thriving really, today. Fortunes
continue to be won.
We just published the
popular new January 2008 issue of our acclaimed monthly newsletter that has our
outlook for key commodities sectors in early 2008. Subscribe today to get our
latest cutting-edge analysis and see the actual real-world trades we are
making based on all our research.
First-time e-mail-PDF-edition subscribers will even receive a
complimentary copy of this new newsletter, with your formal subscription
starting next month.
The bottom line is the
flagship CRB commodities index, if charted across its tenth revision in
mid-2005, bears false witness. It
misleads traders into assuming that the ninth-rev and tenth-rev CRBs are comparable even though nothing could be farther
from the truth. The only truly
comparable CRB is the CCI, which continues the ninth-revision CRB’s components, weighting, and calculation
methodology.
If you see someone trying
to draw technical CRB conclusions across
mid-2005 without using the CCI, know you are being misled. Odds are the analyst is merely
naïve, but in some cases the false witness may be intentional to further
the analyst’s own hidden agenda.
You can’t thrive and trade optimally during a secular bull
without a comparable and accurate yardstick to measure its entire
bull-to-date performance.
Adam Hamilton, CPA
Zealllc.com
January
4, 2007
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information.
Thoughts,
comments, or flames? Fire away at
zelotes@zealllc.com. Due to my staggering and perpetually
increasing e-mail load, I regret that I am not able to respond to comments
personally. I will read all
messages though and really appreciate your feedback!
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2000 - 2006 Zeal Research (www.ZealLLC.com)
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