The 'hurricaneomic' effect
By Darrell Jobman
Darrell Jobman is senior market analyst for TradingEducation.com, a web site that provides free information and education for traders. For more information click here.
WESLEY CHAPEL, Fla. (MarketWatch) - "Here we go again," residents along the U.S. Gulf and east coast must be thinking as the 2006 hurricane season begins.
Should storms of the magnitude of 2005's Katrina, Rita, and Wilma strike again, the expanding hurricane impact on financial markets will have a ripple effect on global markets and consumers far removed from the vicinity of the storm.
Welcome to "hurricaneomics," a term coined by Louis B. Mendelsohn, who began developing software in the 1980s to analyze intermarket relationships. Hurricaneomics deals with that imprecise slice of economics that suggests that disasters like a Katrina can set into motion a domino action that will have an effect on every U.S. citizen, no matter where they live, and on many different markets, reinforcing the significance of intermarket relationships.
One of the first markets that typically is affected at the first hint a tropical storm is brewing is natural gas, as traders anticipate that a severe hurricane might disrupt Gulf production and shipping. Anything that affects natural gas is likely to have repercussions throughout the energy sector as was evident in 2005 when Katrina approached.
In the aftermath of disastrous hurricanes will come demand for building materials, which will drive up demand and prices for commodities such as lumber, copper and other materials needed to rebuild.
But all those are the obvious plays, the moves the professionals are likely to foresee and capture before most investors realize what is happening.
Successful traders who are aware of the hurricaneomic effect expand their view from the eye of the storm to opportunities beyond its immediate reach.
Throw in extraordinary demand from a source such as China and geopolitical events and you have the makings of full-fledged bull markets in energy, as we have already witnessed. In addition to the higher prices everyone in the world is now paying for gasoline or merchandise that involves shipping costs, markets that may seem remotely related to hurricanes can be affected.
For example the shift to ethanol as a clean air additive, has sparked a big increase in demand. A major source of ethanol in the United States is corn. Corn is also a major component of feed for livestock and poultry, which provide meat for consumers, and the United States is also the world's major exporter of corn.
The shock of the U.S. Department of Agriculture's most recent supply/demand estimates is not that the planted acreage of corn has declined from 2005, as expected, but that the usage of corn for ethanol will increase dramatically in the season ahead. With reduced production and higher usage, spurred by energy demand, competition for corn could become intense.
Market prices of ethanol are currently over $3 per gallon, and ethanol producers could pay near $7 a bushel a corn and still have positive returns, estimates Chris Hurt, Purdue University extension marketing specialist. Corn at $7 is a far cry from the price a little over $2 a bushel that livestock producers have paid in recent years.
Hurricanes, past or future, won't be totally responsible for corn prices, of course, but at least part of the current demand for corn for fuel can be attributed to the 2005 hurricanes. If another severe hurricane season exacerbates the current energy situation or if weather in either 2006 or 2007 reduces corn production, corn may be the next bull market.
"The effect of another severe hurricane season could go far beyond commodities and strike at the core of the U.S. and global economies," Mendelsohn points out. Money spent for any materials for further extensive rebuilding or repairing or increased prices for higher gas pump prices or heating bills takes away from spending for other items that could promote economic growth.
The federal government, now very sensitive about providing disaster aid as a result of the fiasco following Katrina, could be expected to step in more quickly in future disasters, further increasing expenditures that will mean more debt. An expanding deficit and more borrowing is likely to mean higher interest rates and higher inflation rates, as has already been noted in government statistics. That has implications for the U.S. dollar, which in turn has an influence on many global markets as the economic ripples from such large-scale disasters expand.
At the same time, higher costs of fuel for heating and transportation and more expensive building materials could slice corporate profits dramatically, reducing prices of equities and leading to a recession that would affect everyone who owns stocks in pension plans or mutual funds.
Whether it's higher interest rates and larger house payments or increased spending at the gas pump or higher bills for energy usage, every U.S. consumer could become aware of hurricaneomics and not just those directly affected by the hurricanes.