Money Velocity and Inflation

posted in: Fundamental Analysis | 0

The Velocity of Money is an important factor in determining inflationary pressures. It represents the speed at which the total stock of money in an economy is spent. Imagine Bill sells his car. With the money he turns around and buys some woodworking equipment from Cliff. Cliff takes those funds and buys new furniture. The velocity of that money is thus 3.

The basic equation:


is the manner in which the metric is calculated. MV equals money velocity, P represents price, and Q equals quantity. When money velocity increases, it means that more dollars are chasing after a set quantity of goods (be they cars, woodworking equipment, or furniture). This pushes up the price level, and thus inflation in those items.
Inflation manifests itself in many ways. Not just in the manner of rising wages. Increases in stocks, homes, and other goods with rising prices can be a result of excessive money growth, and thus inflation.
Given the lack of inflation in our general economy begs the question of why with all the money printing it hasn’t appeared. I believe the chart below explains a lot.

Since the late 1990‘s money supply has collapsed precipitously. Infusions of central bank money printing have caused blips in the overall trend. Yet the trend continues down. I believe there are several reasons for this, and thus the lack of inflation.
Most importantly is demographic. The mid 90’s when money velocity peaked was at the time that the baby boomer generation was in the age range of 39-49. A peak time to become begin to start saving aggressively. Since stashing away money in savings does not flow into an economy, money velocity and thus inflation have suffered.
There are a lot of variables that are involved in the equation of inflation (“I’m a poet and didn’t know it”). This is a major factor that should not be overlooked.

Market Fundamentals of Supply and Demand

posted in: Fundamental Analysis | 0

Fundamental analysis involves the study of the basic underlying supply and demand factors that can be expected to influence market price. In the grain markets, such information as the size of the corn harvest, what was left from last years crop (referred to as carryover), expected exports, and feed use will all come into play in helping make trading decisions. When a fundamental analyst sees an imbalance in these types of factors they will develop a trading plan accordingly.
It should be noted that demand and supply are not only significant in physical commodities, like the grain markets. They apply to anything that has a price. It is just that data is much more diverse for things such as stocks rather than soybeans.

Market Fundamentals-Supply and Demand Dynamics

Another thing to remember is that in the longer term, supply and demand are not mutually exclusive. They dynamically interact together. An old grain trader adage is “that the best cure for low prices is low prices.” That’s because low prices discourage small profit margin producers to plant, and encourages higher margin users such as livestock producers to raise more cattle.
Consequently all price effects on supply and demand have the most impact on the marginal market producers and users. It is through this dynamic that imbalances adjust themselves.
The table below shows the USDA corn supply and demand report for April, 2012.

supply and demand - fundamental analysis
Corn Supply and Demand

Why We Like Market Fundamentals

From a logical viewpoint there is a certain allure to the idea of trading markets on a fundamental basis. And while there are certainly many excellent traders that have made their fortunes utilizing this method of trading, there are several drawbacks to this approach. To begin, one of the most critical elements of successful trading is cutting losses short. Basically what that means is that you need to know when you are wrong relatively quickly. When using a fundamental approach, the forces of supply and demand are difficult to measure and consequently significant changes are not necessarily easy to detect. As a result, a market can move significantly before the fundamental reason is known. Another drawback is the fact that once fundamental data is released, everyone knows about it. It is often very difficult to come out ahead in the futures markets if you are acting on news that everyone else knows. Due to these limitations even hard-core fundamental traders must use some form of technical analysis to manage risk.