China Drives the Rally in Commodities

Emerging markets rallied sharply in Wednesday trading, with the Hang Seng rising 4.03%. Financials were big winners: Hong Kong Exchanges and Clearing gained 7.95%, reaching a 52-week high, and China Merchants Bank climbed 6.33%.

Two weeks ago, Hong Kong and Taiwan agreed to cross-list some ETFs, and regional integration between China, Hong Kong and Taiwan is adding to the H-shares rally on the Hong Kong exchange. Yesterday, the H-share index gained 5.04%. Taiwan didn't join in the rally, though, and it had a relatively small 0.75% gain. The Claymore/Delta China Small Cap ETF (HAO - commentary - Trade Now) is the most direct way to play the rally in H-shares.

China has been a driving force behind the rally in commodity prices as it takes advantage of low prices to stock up on natural resources. A valuable side effect of its efforts has been inflation speculation on the part of global investors; this applies external pressure to the U.S. government's monetary and fiscal policies.

The Federal Reserve has begun discussing an endgame to the bailouts, while the anti-deficit rhetoric in Washington continues to grow in the face of Obama's plans for much greater health care borrowing. By pushing up commodity prices now and shifting its bond purchases to the short term, China (along with other central banks and market participants) can passively direct U.S. policy before it becomes a problem by providing the impetus for aggressive commodity speculation and a steepening yield curve. With inflation vigilantes in the crude market and bond vigilantes in the government credit market, Washington may be boxed into a sensible economic policy yet.

Consumers can feel the effects at the pump, with crude oil up more than 100% from its lows. Crude climbed past $71 per barrel, and oil-and-gas-related ETFs may be ready to rally after trading flat over the past few days. In a recent article on energy stock ETFs, I highlighted SPDR S&P Oil & Gas Exploration (XOP - commentary - Trade Now) and SPDR S&P Oil & Gas Equipment & Services (XES - commentary - Trade Now) as two of the better bets in the sector. Those who are more interested in trading oil itself can check out this article on the various options available.

Gold is not echoing the move in oil, however. This is a sign that this may be more of a demand-driven story than an inflation story.

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Know What You Own: Commodity-related exchange-traded funds include the Dow Jones Commodity Index Total Return ETN (DJP - commentary - Trade Now), the Etracs Constant Maturity Commodity Index ETN (UCI - commentary - Trade Now), the Rogers International Commodity Index (RJI - commentary - Trade Now), the Goldman Sachs Commodity Index Total Return ETN (GSP - commentary - Trade Now), the iShares GSCI Commodity-Indexed Trust ETF (GSG - commentary - Trade Now), the PowerShares DB Commodity Long ETN (DPU - commentary - Trade Now) and the PowerShares DB Commodity Short ETN (DDP - commentary - Trade Now).

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At the time of publication, Dion had no positions in stocks mentioned.

Don Dion is the publisher of the Fidelity Independent Adviser family of newsletters, which provides to a broad range of investors his commentary on the financial markets, with a specific emphasis on mutual funds and exchange-traded funds. With more than 100,000 subscribers in the U.S. and 29 other countries, Fidelity Independent Adviser publishes six monthly newsletters and three weekly newsletters. Its flagship publication, Fidelity Independent Adviser, has been published monthly for 11 years and reaches 40,000 subscribers.

Dion is also president and founder of Dion Money Management, a fee-based investment advisory firm to affluent individuals, families and nonprofit organizations, where he is responsible for setting investment policy, creating custom portfolios and overseeing the performance of client accounts. Founded in 1996 and based in Williamstown, Mass., Dion Money Management manages assets for clients in 49 states and 11 countries. Dion is a licensed attorney in Massachusetts and Maine and has more than 25 years' experience working in the financial markets, having founded and run two publicly traded companies before establishing Dion Money Management.