Rebuilding trust in commodities amidst a rare global macro environment
Global commodities
The current global macro environment is unusual. We are late cycle (slowdown) where thanks to China, the global economy is below capacity and growing which is early cycle (recovery), yet inventories are depleted and spare capacity is thin which is late cycle. This is rare, as normally at this stage of the business cycle the economy is above capacity and slowing. During the current late cycle phase, although demand growth is slowing due to higher interest rates, demand is critically still above supply – which matters for commodities as spot anchored physical assets, driven by demand “levels” (see here). Thus, today we have a global economy where the US is accelerating above capacity and China is accelerating far below capacity, but at an increasing rate. Critically, this setup is however being played out in the context of late cycle inventories and exhausted spare capacity, yet accelerating demand growth is below trend. As a result, when China pushes demand above supply – as we anticipate it will do as it recovers further post-COVID lockdowns – the commodities system will hit capacity constraints on supply and inventories, repeating common late cycle returns akin to 2007’s late cycle (see here and here).
Energy
Following the shock OPEC+ cut announcement on 2 April (see here), crude oil is trading at the highest level this year, trying to now break above its 200 day moving average – last seen in August 2022. It’s a tug-of-war of where oil prices go next. On the one hand (and one which resonates with our thesis) is the bullish narrative that supply scarcity driven by a tight market due to stern OPEC+ cuts, negligible US shale output and the China reopening trade will drive prices higher. On the other hand is the bearish perspective on Fed angst and hard landing concerns. Meanwhile, US natural gas prices have risen to a two week high as LNG demand reaches new records with traders placing long positions as Henry Hub is trading near the key USD2/mmBtu support level.
Base metals
Base metals remain caught between stronger Chinese micro and growing apprehensions of a possible US recession. However, a balance between these two forces belies evidence of an aggregate deficit in physical fundamentals in copper and zinc – corroborated with these base metals in backwardation (supply tightness). Yet, we recognise that this constructive micro-driven outlook is at odds with growing bearish macro risks.
Precious metals
Gold continues to flirt with all-time highs owing to the effects of both fear (short-term driver linked to recessionary angst and a weaker US dollar) as well as wealth (long-term driver linked to both EMs and the US dollar). Whilst we have recently raised our gold price forecasts and look for bullion to remain north of USD2,000/oz into 2024, we believe it will be challenging for bullion to move sustainably above USD2,100/oz in our view without the Fed cutting rates in a recession scenario that sees it shift towards growth support.
Bulk commodities
Iron ore is resetting lower with the decline being driven by (i) Chinese demand weakness; (ii) Chinese authorities waging a campaign against what they view as overexuberant pricing; and (iii) healthy supply from leading shipper Australia. Meanwhile, China’s coal market remains obstinately weak as an uneven economic recovery fails to ignite demand for power from manufacturers, and importers take advantage of a drop in global prices.
Agriculture
Sugar extended its surge on mounting angst surrounding tight supplies in key shipper India (shipments being controlled by quotas that are almost exhausted with no real expectation of an increase), as well as lacklustre supplies from China, Thailand, Mexico and across Europe.
Core indicators
Price performance and forecasts, flows, market positioning, timespreads, futures, inventories, storage and products performance are covered in the report.
CHART OF THE WEEK: COPPER/GOLD RATIO SIGNALS FALLING TREASURIES
US 10 YEAR TREASURY YIELD (%) AND COPPER/GOLD RATIO
