The simple logic to that — from the manufacturers’ perspective at least — would be that higher commodity prices translate into higher input costs and thus lower profitability for a company, which tends to result in a loss of investor confidence and interest to invest in such firms altogether.
However, when there is impetus for growth in the economy, then commodities and equities could end up moving in the same direction. And that is exactly what happened on Jan 26, when the Dow Jones Industrial Average hit an all-time high of 26,616.71 points and the Bloomberg Commodity Index (BCOM) touched 90.79 points — its highest level since August 2015.
The BCOM tracks 22 commodities, including gold, crude oil, copper, corn, soybean, aluminium, nickel, zinc and wheat. Gold holds the highest weightage in the index at 12%, followed by natural gas (7.58%) and Brent crude oil (7.23%).
With the BCOM hitting its highest level in 29 months in January, coupled with the International Monetary Fund revising its global growth forecast to 3.9% from an earlier 3.7%, a question to ask is whether an uptick for commodities is in store.
Furthermore, rising inflation and a weaker US dollar — two factors prevalent this year — are positive for investments in commodities. These, coupled with volatility in stocks and higher interest rates ahead, have commodity bulls calling for a “commodity super cycle”.
Goldman Sachs is also reported to be at its most bullish on commodities since the end of the super cycle in 2008. In a report this month, the bank’s head of global commodity research, Jeffrey Currie, says the 3Rs — reflation, reconvergence of global growth and releveraging — will drive commodity prices higher.
According to Currie, most commodity prices reflated last year, supported by a weaker US dollar, supply controls and global growth. This allowed debt-laden producers to repay loans, clean up their balance sheets and releverage.
This led to emerging economies catching up — or reconverging — with developed ones.
Goldman is not alone. JP Morgan is also bullish on commodities amid inflationary pressure, as evidenced by recent US wage data and core consumer price inflation.
Recall that commodities last had a good run in the early 2000s — its so-called “super cycle”, with the BCOM seeing a more than two-fold increase from 89.03 points on Dec 31, 2001, to 233.03 points on June 30, 2008 — before dropping 53% to 109.78 points on March 31, 2009.
OCBC Bank economist Barnabas Gan says a bullish view on commodity prices is not unfounded going into 2018.
“Global economic strength is expected to stay on track into the year, albeit some moderation in trade and manufacturing momentum given 2017’s high base print,” he writes in a Feb 14 note, adding that this suggests that demand for commodities will stay supported this year.
However, he says, views that a commodity super cycle is just around the corner can be a little too premature at this juncture.
“Historically, the super cycle seen in the 2000s was led by two key factors. One, it occurred immediately after the Great Commodities Depression of the 1980s and 1990s, in which there was a huge pent-up commodity demand,” he says.
“Two, with increased globalisation and the emergence of trade deals across trading countries, a commodity boom emerged in the two decades following the depression. On this, there was a sudden and arguably unprecedented rise in commodity demand, especially from emerging markets.
“Should history be of reference, the ingredients to a similar commodity super cycle remain obscure to date, while the state of the global economy is starkly different from what we are facing now.”
However, some experts say there are enough signs at present, such as rising government bond yields, to support an uptick in commodities.
Shelley Goldberg, founder and principal of US-based financial advisory firm Invest-With-Purpose, says in a recent piece on Bloomberg that the 10-year US Treasury yield is one of the best metrics for predicting the direction of commodity prices.
“Treasury yields show how investors feel about the economy in the future, which influences spending habits today. Rising yields are generally a reflection of a stronger economy and heightened confidence. Manufacturers then build plants and grow inventories to respond to greater demand.
“Its [the yield’s] increase in recent months indicates that commodities have more room on the upside,” she says.
The 10-year US Treasury yield rose to its highest level this year on Feb 21 at 2.95%. It was also the highest yield achieved since Jan 9, 2014, at 2.9652%.
The BCOM at the time was understandably higher at 122.33 points given the higher crude oil prices then. Oil prices began their decline in mid-2014, bringing the BCOM down with them.
With oil prices showing some strength of late, is it finally commodities’ turn to do well, led by oil, after years of being in the doldrums? If so, where are the bright spots in commodities?
- Source, The Edge Markets
