Key Points:

• Overall, and despite some exceptions, the last decades have been displaying an inverse correlation between bonds and commodities.
   
• The 1970s: inflationary decade characterized by rising commodity market and falling bond prices. Find out more below!
  
  
• The 1980s & 1990s: Disinflationary decades in which commodities prices fell and bond prices rose. The important role played by these two markets in triggering the stock market crisis in late 1987 is thoroughly analyzed.
  
  
• The 2000s: Commodities and bonds continued to be inversely correlated but with two major exceptions: the stock market crashes during 2002 and 2007/2008.

As explained in this article, bonds (USB) and commodities (CRB) usually trend in opposite directions. Rising commodity prices cause, generally, bond prices to fall whereas falling commodity prices result in higher bond prices. If you are curious to learn how the relationship between bonds and commodities evolved and how these two markets behaved during the stock market crashes in 1987, 2002 and 2007/2008, read on!

The 1970s: inflationary decade

During the 1970s, the baby boomers entered the labor market and they went on a spending spree, which evidently put a strain on prices and fueled inflation. Due to a couple of oil crisis, the price of this commodity rose dramatically triggering an almost out-of-control acceleration of the CPI, a key measure of inflation.

This changing environment was then characterized by explosive advances in the commodity market, rising bond yields (and falling bond prices). During periods of rising inflation and soaring interest rates, the value of bonds decline. During this decade, the CRB Index gained about 250% whereas Treasury bond yields appreciated by approximately 150%.

The 1980s and 1990s: Disinflationary decades

After the 1970s, a decade characterized by rising commodity prices and a weak bond market, the inflationary spiral came to an end, signaling the beginning of a disinflationary period. Disinflation refers to a situation when consumer prices are rising at a slower pace – the inflation rate dropped from about 13% at the start of the 1980s to 2% in 1986. The peak in the CRB index (in 1980) was followed, one year later, by a major bottom in bonds. In the early 1980s, the high real interest rates put a dent on inflation and commodities markets depreciated in value. The disinflationary period can be then described by falling commodities prices and interest rates. One major interruption of this trend occurred during the 1982-1984 period when the CRB Index bounced back significantly which led to rising interest rates. However and overall, commodity prices fell and bond prices rose throughout the last two decades of the 20^th century. When inflation is under control and interest rates are declining, bonds rise as the appeal of safety and income lure investors to purchase them.

During the period 1984-1986, when the price of crude oil and the CRB index plummeted and the 30-year U.S. Treasury Bonds Index rallied significantly. Then, by mid-1986, when commodities were bottoming out, bonds were topping out. After that, commodities prices reversed into an uptrend, the Federal Reserve (Fed) adopted a more restrictive monetary policy and the bond market fell sharply. This decline led eventually to the stock market crisis in late 1987. The Fed became worried with the aftermath of the crash, it eased monetary policy and the bond market rebounded sharply. The CRB index continued to rise and the threat of inflation appeared again, aggravated by a U.S. Midwestern drought, which provoked the rise of some food components (such as grains and soybeans). However, with falling crude prices, any rise in inflation was deemed to be temporary (as well as the drought). Nevertheless, the Fed tightened its monetary policy and interest rates rose again. By 1989, the economic environment signaled a slowdown – characterized by the crisis in the saving and loans industry and an uncertain outlook for real estate – accompanied by falling commodities prices. The Fed decided to cut rates leading to a strong upward movement in bonds.

The chart below shows that turns in one market was frequently accompanied by turns in the other, and in the opposite direction.

In 1993, an upturn in commodities prices drove down bond prices. During 1997 and 1998 and as a result of the Asian currency crisis, plunging commodity prices pushed bond prices sharply higher. In 1999, with the recovery of Asian economies, bond prices fell sharply as the rising price of oil and industrial commodities pushed interest rates higher (as well as the CRB Index) as inflation fears resurfaced. The direction of commodity prices, as explained here, played again key role in the direction of interest rates.