Personal Wealth Management / Economics

Markets Respond to Price Signals

Rising prices may present short-term difficulties, but we see more and more companies responding to price signals and ramping up production.

We have noted before that when markets are allowed to work, we have found that high prices are often self-correcting because they invite greater production—raising supply—and limit demand, which stabilises or tugs prices back down. For example, after lumber prices hit record highs in May, American sawmills ripped more boards, whilst some buyers balked, sending prices down -72.8% through the summer.[i] Though up a bit lately, they remain -52.2% off their May peak.[ii] We see this same dynamic playing out in myriad other areas. Let us take a tour.

Shipping backlogs? The Baltic Dry Index—a measure of bulk goods’ (like coal and steel) transport costs—hit a 13-year high in October, but it has since tumbled -52.62% as global port congestion eases.[iii]

Exhibit 1: Transport Costs Climb Down

Source: FactSet, as of 23/11/2021. Baltic Dry Index, 1/1/2021 – 22/11/2021.

Container shipping rates remain near record highs, but that is incentivising companies (and ports) to move freight faster—unclogging terminals—and rates are starting to move lower.[iv] With 71 ships idling in San Pedro Bay off the Ports of Los Angeles and Long Beach last Friday (down from a peak of 86 a few days before), there is still a lot of cargo to unload.[v] But port operators say that is speeding up with sweeper ships on the way to clear empties and further decongest.[vi] Container backlogs have fallen about a quarter over the last month.[vii]

Now, these Southern California ports are just a couple links in the global supply chain. Elsewhere, mudslides have severed rail lines to the Canadian Port of Vancouver, threatening a major shipping artery from Canada to Asian markets.[viii] But trade often finds a way, in our experience. There are multiple smaller North American ports clamouring for business; shippers can reroute their cargoes accordingly.[ix] The US state of Maine’s Port of Portland is moving record volumes, for instance.[x]

The energy crunch also seems to be softening, based on the latest information. Record-high European natural gas prices? Politics may be at play—particularly regarding Russian gas delivery—so we think a direct supply response looks likely to remain elusive as long as the Nord Stream 2 pipeline stays in regulatory limbo. But this appears to be prompting substitution effects—another way to limit demand, whilst boosting energy supply in adjacent markets. China has ramped coal production, tanking prices globally after October’s spike.[xi] Now coal-fired electricity generation on the Continent is headed toward meeting 15% of European power demand from less than 10% in Q1 2021, helping reduce reliance on gas—and Russia.[xii]

Oil prices near seven-year highs?[xiii] America’s shale drillers are stepping up, based on our analysis. Total US oil production is approaching 12 million barrels per day (bpd), within spitting distance of its pre-pandemic 13 million bpd record high.[xiv] Our research shows global Energy companies’ capital expenditures should rise around 10% next year.[xv] Meanwhile, US President Joe Biden just opened up the Gulf of Mexico to record amounts of new drilling, reversing his previous pledge to halt oil and gas permits on public lands and waters.[xvi]

It usually takes longer for new semiconductor investments to bear fruit, but even there, we think short- and long-term progress is occurring. Some car companies that idled plants have restarted production, saying chip supplies have improved.[xvii] Car inventories remain tight, but they are starting to rise.[xviii] Looking further out, two big US automakers just announced strategic partnerships with chipmakers to ensure future supplies.[xix]

Aluminium prices, near record highs in October, have backed off -14.6% as producers moved to expand output.[xx] Copper is also down -5.9% from its recent peak for similar reasons.[xxi]

Coffee at record highs? Drought in Brazil, too much rain in Colombia and civil war in Ethiopia have constrained the world’s top-producing Arabica suppliers.[xxii] As long-term contracts reprice, that could spike a cuppa’s price this winter, but the crop situation for 2022 is looking better.[xxiii]

You may have noticed chicken prices are up. This is due in part to labour shortages, which you may have also heard about.[xxiv] But slaughterhouses aren’t sitting still. Even as they have improved staffing levels, processors are also investing in automation.[xxv]

Not all meat has risen—pigs haven’t flown. After rising to near record highs in June, lean hog prices have fallen -36.0%.[xxvi] This was due to a pig glut in China, after a shortage there subsequently led to excess production—a reminder, in our view, of how these things tend to move in cycles.[xxvii]

Last, but not least, what to make of record high home prices in the UK? Home builders have an answer: New housing starts are near their highest in 14 years.[xxviii]

Exhibit 2: Building Boom

Source: FactSet, as of 23/11/2021. UK housing starts, Q1 1990 – Q2 2021.

Supply-side reactions to price signals don’t usually have an immediate effect—they take time, in our experience. But as supply (and demand) adjust, which we think you can see if you dig a bit, it is a good indication that today’s price pressures are likely temporary and probably not the start of a lasting spiral so many headlines we read warn about. To us, this is a big reason why the bond market, which our research shows is most sensitive to inflation and inflation expectations, doesn’t appear to be ringing any alarm bells. Yes, 20-year inflation implied forward has risen from about 2.5% in March 2020 to 3.2% last Friday, reflecting the Retail Price Index (RPI), which typically runs about a percentage point more than the Consumer Price Index.[xxix] (That is, the difference between 20-year gilt and linker yields, which represents the market’s expectation for the average RPI inflation rate over the next 20 years.) But that is still below any point since 2007.[xxx] Historically low 20-year gilt yields, which are near pre-pandemic levels at 1.2%, indicate a return to normal—not panic, in our view.[xxxi] We think if a 1970s inflation replay was commencing, bond yields would probably be rising a lot more.[xxxii] Currently, they aren’t.

Exhibit 3: Long-Term Inflation Expectations in Check

Source: Bank of England, as of 23/11/2021. 20-year inflation implied forward, 28/2/1996 – 19/11/2021.



[i] Source: FactSet, as of 23/11/2021. Lumber price per board feet, 7/5/2021 – 15/9/2021.

[ii] Ibid. Lumber price per board feet, 7/5/2021 – 22/11/2021.

[iii] Ibid. Baltic Dry Index, 6/10/2021 – 22/11/2021.

[iv] “The U.S. Supply-Chain Crisis Is Already Easing,” Brooke Sutherland, Bloomberg, 18/11/2021. Accessed via the Internet Archive.

[v] “Supply-Chain Problems Show Signs of Easing,” Stella Yifan Xie, Jon Emont and Alistair MacDonald, The Wall Street Journal, 21/11/2021. Accessed via FOXBusiness.

[vi] “Container Logjam Eases as L.A. Port Threatens Penalties,” Michael Sasso, Bloomberg, 16/11/2021. Accessed via MSN.

[vii] Ibid.

[viii] “From Fire to Floods, Climate Change Hits Canada's Fragile Supply Chain,” Rod Nickel and Nia Williams, Reuters, 19/11/2021. Accessed via gCaptain.

[ix] “Smaller U.S. Ports Pitch for Cargo as California’s Logjams Swell,” Augusta Saraiva, Bloomberg, 5/11/2021. Accessed via gCaptain.

[x] “With Other Cargo Ports in Chaos, Portland’s Is Sailing Toward a Record-Breaking Year,” Peter McGuire, Portland Press Herald, 13/11/2021.

[xi] “Big Winners From Natural-Gas Crunch: Coal Power Plants in Europe,” Joe Wallace, The Wall Street Journal, 17/11/2021. Accessed via Reddit.

[xii] Ibid.

[xiii] Source: FactSet, as of 23/11/2021. Statement based on Brent crude oil price.

[xiv] Source: US Energy Information Administration, as of 23/11/2021. Weekly US field production of crude oil, 21/2/2020 – 12/11/2021.

[xv] Source: Fisher Investments Research and company filings, as of 19/11/2021.

[xvi] “U.S. Holds Historic Oil and Gas Lease Sale in Gulf of Mexico Days After Climate Summit,” Emma Newburger, CNBC, 17/11/2021.

[xvii] “Supply Chain Crisis Shows Signs of Gradually Easing,” Neal Freyman, Morning Brew, 17/12/2021.

[xviii] “U.S. October Car Sales and Inventories Rise, but Don’t Call It a Comeback,” Claudia Assis, MarketWatch, 3/11/2021. Accessed via MSN.

[xix] “Ford and GM Are Getting Into Chip Development to Help Deal With the Shortage,” Jasmine Hicks, The Verge, 18/11/2021.

[xx] Source: FactSet, as of 23/11/2021. Aluminium price per tonne, 18/10/2021 – 22/11/2021.

[xxi] Ibid. Copper price per tonne, 19/10/2021 – 22/11/2021.

[xxii] “High-End Arabica Coffee at 9-Year High With Supply Risks Worsening,” Marvin G. Perez, Bloomberg, 15/11/2021. Accessed via Yahoo!

[xxiii] “Brazil’s Coffee Crop Expected to Rebound After Above-Average Rain,” Marvin G. Perez, Bloomberg, 5/11/2021. Accessed via Yahoo!

[xxiv] “Britain’s Chicken King Says the 20-Year Binge on Cheap Food Is Over,” Guy Faulconbridge and Andrew Macaskill, Reuters, 14/10/2021. Accessed via Yahoo!

[xxv] Ibid. “2 Sisters to Add 900 Workers in Visa Boost,” Rod Addy, Food Manufacture, 17/11/2021.

[xxvi] Source: FactSet, as of 23/11/2021. Lean hog price per pound, 14/6/2021 – 22/11/2021.

[xxvii] “CME Lean Hog Futures Slip Amid Export Demand Doubts,” P.J. Huffstutter, Reuters, 2/11/2021. Accessed via Swineweb.com.

[xxviii] Source: FactSet, as of 23/11/2021. UK housing starts, Q4 2007 – Q2 2021.

[xxix] Source: BoE, as of 23/11/2021. 20-year inflation implied forward, 20/3/2020 – 19/11/2021. “UK Sells New 50-Year Inflation-Linked Bond With Record-Low Yield,” David Milliken, Reuters, 23/11/2021. Accessed via Yahoo!

[xxx] Implied 20-year inflation going forward of 2.5% in March 2020 was probably an overreaction, in our view, which highlights how this indicator can be sentiment driven, so we wouldn’t take its projections as ironclad. But given its relatively narrow range over the last decade, we think it is fair to say it isn’t currently pricing anything out of the ordinary.

[xxxi] Source: FactSet, as of 23/11/2021. 20-year gilt yield, 22/11/2021.

[xxxii] Or if rising debt loads were getting out of hand or HM Treasury was somehow incapable of servicing them or, or, or.

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