The daily movement in the world's equity markets is influenced by a multitude of factors, ranging from large institutional block trades and program trading to earnings and economic reports. One factor that makes a splash is the influence of commodity prices. In fact, fluctuating commodity prices can have a tremendous impact on the earnings of public companies and, by extension, the markets. Read on to learn more about this relationship and why it matters to investors.
The average person would probably never ponder the cost of lumber unless they were in the process of building a house. However, the pricing of this commodity is closely watched and can affect many companies and individuals, such as homebuyers. Indeed, the relationship between the demand for homes and the price of lumber is one that goes hand in hand. If the price of lumber increases, this directly affects the cost of home building, which in turn has an impact on the real estate market. The price of lumber, logically, also affects the cost of many other types of structures being built.
The United States has approximately 5% of the world's population and consumes approximately 28% of the world's industrial wood products. The domestic inventory of timber in the U.S. is 10% of the earth's supply and 96% of U.S. consumption of industrial wood comes from that domestic supply.
Many consumers only think about oil prices in the context of how it directly impacts their wallets. In other words, how much they will end up paying at the pump as the result of price fluctuations. However, oil is one of the cornerstones of the global economy and its price is extremely important to companies of all types.
The price of oil can affect a variety of industries, ranging from retailers to manufacturers of plastics to transportation. Just think about how all of the products that are on the shelves of your local Wal-Mart (WMT) and Target (TGT) are shipped.
If oil prices increase, by extension, this means that these companies either have to eat the rising cost of fuel or try to pass some of it along to consumers in the form of higher prices. Unfortunately, however, if they aren't able to pass along the cost increase, it can have an adverse impact on margins and net income, which can put downward pressure on stock prices and hurt investor returns.
Furthermore, for example, the price of jet fuel used in airplanes directly impacts how much airlines charge for tickets. If the price of oil goes up, airlines typically pass part of the cost onto the consumer. If the price of tickets is too high, people will travel less. This then not only affects the airlines but also the tourism industry, which many cities and countries rely on as an important source of revenue.
The movements in the price of oil have far-reaching consequences, as it is one of the primary energy sources of our world as well as used in a multitude of day-to-day products.
Cotton is used more than any other fiber in the world and is an important source of revenue for the U.S. and many other cotton producing nations. Cotton is used in a wide variety of goods, one of the most common being clothing. As a significant amount of clothes contain large amounts of cotton, price fluctuations have an impact on an apparel retailer's cost of goods sold.
The impact of the cotton industry does not only affect the prices of the end product, however. The cotton industry is a behemoth, employing over 250 million people globally and the source of employment for 7% of all labor jobs in developing countries. Any adverse price movements can affect employment on a large scale. The production of cotton each year amounts to billions in related production services, with cotton plants and cotton factories having a vested interest in the health of the cotton industry.
Wheat is the third-largest crop industry in the U.S., after cotton and soybeans. The wheat chain is far-reaching, from bread to beer to flour, to feed for livestock, to seed. Clearly the wheat market has a large impact on the global economy. If wheat prices are up, this increases the cost to feed livestock for example, which increases the cost of meat. This increases the purchase price for grocery stores to stock their shelves. The movements in wheat production, and any other commodity for that matter, also has an impact on distributors and any middlemen. (For more, see: Grow Your Finances in the Grain Markets.)
Corn in one form or another is used by almost every individual. It is an ingredient in cereals, building materials, soda, alcohol, and even tires. The price of corn is also impacted by the demand and production of ethanol, which is an increasingly popular corn-based fuel. As the demand for alternative fuels ramps up, corn prices could go even higher. Food manufacturers, retailers, consumers and, by extension, stock prices will be affected by fluctuating corn prices.
The coffee industry is huge. It is the most consumed beverage in the U.S., and that includes water. The coffee supply chain is far and wide. From small coffee plantations in developing countries to giant corporations like Starbucks (SBUX) and McDonald's (MCD). Changes in coffee prices not only affect how much we pay for a cup of coffee but also how poor coffee farmers in developing nations live their lives. The coffee industry is worth over $100 billion worldwide and makes up a significant portion of GDP for many countries.
The price of gold can have an impact on jewelers as well as on retailers that sell or receive a portion of their sales from jewelry related items. For example, Macy's (M) and many of the other well-known mall-based department stores generate a significant amount of revenue from their jewelry departments.
Gold can also be used in medical products, glass making, aerospace, and a variety of other businesses. By extension, this means that fluctuations in gold prices can make the markets move.
In addition, because gold is found and valued all over the world, it is considered a universal currency. So, if the outlook for the U.S. equity markets and/or the economy is dim, it's likely that the demand for gold will increase as investors "flock to safety." If it appears as though the economy is about to perk up, or that corporate earnings are going to be on the rise, investors tend to abandon gold in favor of equities. (For more, see: Does It Still Pay to Invest in Gold?)
The Bottom Line
Although there are a variety of factors that can move markets, commodities can have a major influence on businesses, individuals, stocks, and portfolios. When you're looking to invest in a particular sector or company, take a look at relevant commodity prices and what this might mean for your investments going forward.