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Comic: Commodities' Streak Ahead

Commodities May 05, 2021 00:46
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By Geoffrey Smith -- The rally in stock markets may be faltering, but it seems like nothing can stop the commodities juggernaut in 2021.

Since the start of the year, crude oil has risen 32%. Goldman Sachs analysts said last week they expect it to hit $80 by year-end as the reopening of U.S. and European economies, in particular, brings global demand for the world’s most important industrial commodity back faster than seemed possible only a few months ago.

Industrial metals have also partied furiously this year, with copper up 35% and trading at over $10,000 a ton in London for the first time since 2011. Aluminum is up 23% at an eight-year high, catching up with nickel and zinc, which are also at eight-year highs.

Grain traders are determined not to miss out. U.S. corn futures topped $7 a bushel for the first time in eight years on Tuesday, and are now up over 42% so far this year, as are U.S. soybeans. Agricultural commodities powerhouse Archer-Daniels-Midland last week said its “outlook today is even more optimistic than what we shared at the beginning of the year” thanks to “clear, favorable demand trends for many of our products.”

But the gold medal, at least for the year-to-date, goes to lumber. The backbone of the U.S. housing market has risen by 83% and has more than tripled over the last 12 months, adding over $36,000 to the price of a new home in recent months, according to the National Association of Home Builders.

“The rally has in recent months become noticeably more synchronised across all the three sectors: energy, metals and agriculture,” Ole Hansen, head of commodities strategy for Saxo Bank, in his outlook for the second quarter.

Given the myriad factors at work in commodity price formation, a synchronized rally is usually a symptom of something big at work. This time is no different. All of these rallies are being fueled by unprecedented amounts of liquidity, and sustained by a sense that money – for all the reassurances from complacent central bankers – is losing its value as a result. In other words, a part of the rally is due to fears of inflation. It’s no coincidence that the dollar, measured against a basket of advanced economy currencies, lost over 4% since the start of the year.

Hansen identifies a second factor behind the rally: years of underinvestment are leading to supply bottlenecks, which when combined with sustained increases in demand can lead to ‘supercycles’ such as the one that led up to the 2008 crash. This is especially true for industrial metals, where the high cost of new project development pushes miners to put off such projects for as long as possible.

There are other megatrends at work too: the electrification of mobility has shifted structural demand for battery and wiring metals such as copper and nickel higher. The pandemic appears to have raised, irreversibly, the potential for working at home, as well as permanently raising the anxiety of living in densely populated areas. The result of that is a ferocious housing boom in the U.S. as people seek more living space in the suburbs. That has created an acute lumber shortage.

Yet there are also good reasons to suggest that the new supercycle will be a while coming. Many of today’s markets are being squeezed higher by factors that are temporary, and amplified by speculative interest that is historically fickle.

Thus, grains prices are largely the result of a rare triple whammy of weather factors that have hit the U.S., Russia and Brazil simultaneously. Palladium, which topped $3,000 an ounce for the first time last week, may be fundamentally supported by new Chinese regulations on truck emissions this year, but is also lacking supply from Russia’s Norilsk Nickel, the world’s biggest producer, due to flooding in its largest mine. Until that accident, metals specialists Johnson Matthey (LON:JMAT) had seen the world palladium market being broadly in balance this year.

Most notably of all, crude oil still enjoys the massive and artificial support of a pact between OPEC and Russia that is keeping 6 million barrels a day of output off the market. While there’s every reason to think that demand will return to pre-pandemic levels in due course, especially if commercial flying recovers, bringing it back online without encouraging more shale drilling in the U.S. is still a process that needs careful managing.

Lastly - and most importantly of all - while it may seem permanent today, the era of free money will also one day surely end. Until then, though, it’s hard to see anything stopping commodities.

Comic: Commodities' Streak Ahead

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