by Kevin Klombies, Senior Analyst, TradingEducation.com, LLC


Tuesday, August 19, 2008

Chart Presentation: KO/SPX

We start off today with a chart-based comparison that shows one of the reasons we continue to like the share price of Coca Cola (KO).

The chart at top right compares the U.S. Dollar Index (DXY) futures with the ratio between Coca Cola (KO) and the S&P 500 Index (SPX) from early 1993 through 1997.

The argument begins around the start of 1994 as the dollar began to decline. The offset to dollar weakness through the first half of 1994 was general strength in the KO/SPX ratio. In other words as the dollar moved lower the share price of Coke began to outperform the broad market. One explanation for this might be that as the dollar weakens Coke’s foreign sales look better in dollar terms.

In any event the dollar hit bottom in mid-1995 before turning back to upside. By the first half of 1997 the dollar had risen back to the general levels that marked the starting point for this sequence in early 1994.

While Coke’s absolute price peak was made in 1998 its relative strength peak was reached in 1997. In other words Coke’s share price rose faster than the S&P 500 Index from early 1994 when the U.S. Dollar Index was trading around 97 all the way through into 1997 when the DXY was once again trading around 97.

We show the same chart comparison for the current time frame at bottom right.

Similar to 1994 the dollar reached a peak around the 92 level towards the beginning of 2006 just in front of the start of a rising trend for the KO/SPX ratio. While it has taken the dollar a full year longer to reach bottom- including a decline through the first half of 2008 that pressured copper prices higher and pulled the KO/SPX lower- it appears that we have finally reached the point in the cycle’s progression where the dollar begins the journey back towards 92. The argument in favor of KO would be that if history were kind enough to repeat then the KO/SPX ratio should continue to rise until the U.S. Dollar Index returns to its original starting level around 92. If the entire cycle takes the same length of time as 1994- 97 then the dollar’s recovery will be completed by the second quarter of 2009 with the KO/SPX ratio somewhere in the vicinity of .055:1.

Second chart below compares the CRB Index (commodity prices) with the ratio between the Canadian (S&P/TSX Comp.) and U.S. (S&P 500 Index) equity markets.

This relationship has really been quite fascinating. On Friday, for example, the Cdn stock market fell sharply while the U.S. market held in fairly well as the CRB Index declined towards 380 while yesterday the SPX fell 1.51% while the TSX ended the day slightly higher as the CRB Index recovered.

Our view remains that the CRB Index should continue to decline into the seasonally weak October time frame so, as usual, we favor the U.S. equity market.

Below is a chart comparison between copper futures and the spread between the prices of the 30-year T-Bond futures and the 10-year T-Note futures.

The basic argument is that weaker copper prices go with a rising spread and, in general, the spread will rise when bond prices are pushing upwards. In both 2005 and 2006 the spread rose to a peak around +5 so, if history were to repeat, the next bottom for base metals prices could be reached once the spread widens from around 1.5 points today out to something closer to 5 points.

Below right is a chart comparison between the U.S. Dollar Index (DXY) and the ratio between the Philadelphia Semiconductor Index (SOX) and copper futures. The rather quick point here is that at dollar bottoms we tend to find the semiconductor sector at a low relative to base metals prices. The chart argues that 2008 is in some ways similar to 2005 and that on dollar strength the tech sector should outperform metals prices.

Kevin Klombies is a prolific writer and market analyst specializing in the commodity stock market and bond commodity market trading in the energy sector. He  graduated in 1980 from the University of Saskatchewan with a Bachelor of Commerce degree (Honours) in Finance/Economics.  Click here for full bio >>