Commodities boom comes with higher hopes and potential risks
growth in China, as well as signs of an end to years of structural oversupply in key commodities.
Hedge funds are betting on sustained revival of commodities as an asset class.
“Given the prospect of an improving global economy with the US economy, in potentially reflationary mode, leading the pack, hedge funds are betting for a sustained revival in commodities ranging from raw materials, industrial and precious metals although investors are positioning for mixed returns.
“Investors have added cotton, cattle, crude oil and soybean into their bullish positions but are not optimistic on corn, coca and wheat,’’ noted Lee Heng Guie, executive director, Socio Economic Research Centre.
There are indicators of an improving global economy. “Commodity prices in crude oil, iron and steel, to name a few, have rebounded since last year. Investors are more confident that the rally is sustainable and it is supported by improvements in the global economy.
“Purchasing Managers’ Indices (PMI) in major economies have been sustaining above the boomand-bust threshold levels in the past six months or so.
“Inflation is also picking pace, a sign that global demand is slowly rebounding,’’ said Nor Zahidi Alias, chief economist, Malaysian Rating Corp.
The PMI, an indicator of the health of the manufacturing sector, is based on new orders, inventory levels, production, supplier deliveries and employment environment.
Things are also looking up in China. “China’s producer prices have turned positive in the past five months after a four-and-a-half year stretch of deflation from 2012 to 2016.
“Imports of iron ore jumped 12% year-on-year in January 2017 alone. For the whole of last year, China’s imports of iron ore rose 7.5%,’’ noted Zahidi.
US dollar weakening is positive for commodities. “The US dollar rally has started to fizzle; the index has retreated slightly since its peak in December last year.
“While the greenback is expected to remain fairly strong, much of that strength is reflected in its current value,’’ said Zahidi.
Positive factors remain for crude oil prices. “There is a general view that the Organisation of Petroleum Exporting Countries (Opec) will likely extend the agreement on production cut beyond the middle of this year (for supply and demand to be balanced).
“Although US production is slowly rising to around nine million barrels per day, the overall global surplus is expected to narrow by this year. And this is positive for crude oil prices,’’ said Zahidi.
Risks in commodities investments have gone up. The rush to go long on commodities may already have gone further than is justified by physical fundamentals, cautioned Bloomberg, quoting Citigroup.
For instance, in the Brent and West Texas Intermediate crude oil markets, “the math doesn’t quite add up,” given that prices are trapped in a tight range and a consensus that US shale output will cap prices, the bank was quoted as saying.
“Hedge funds are piling into long positions at a time when inventories are getting worrisome in North America and the oil majors are taking the opposite view. Who will be proven right eventually?
“My money is on the oil majors/ commercial players rather than speculators like hedge funds,’’ said Pong Teng Siew, head of research, Inter-Pacific Securities.
“There are still risks, for instance, stemming from a potentially tighter global financial condition if the US Fed raises interest rates aggressively. This will raise the cost of borrowing and reduce the supply of liquidity to fund speculative investments.
“An overly protectionist approach by the President Donald Trump administration can dampen world trade and economic growth,’’ said Lee.
Columnist Yap Leng Kuen sees warning signs when prices get too hot.