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Wednesday, 15 October 2008
Bull Market in Commodities at an End, for Now
The global financial panic and the economic slowdown have put at least a temporary end to the commodity bull market of the last seven years, sending prices tumbling for many of the raw ingredients of the world economy. PDF
The global financial panic and the economic slowdown have put at least a temporary end to the commodity bull market of the last seven years, sending prices tumbling for many of the raw ingredients of the world economy.
Since the spring and early summer, when prices for many commodities peaked amid fears of permanent shortage, wheat and corn — two cereals at the base of the human food chain — have dropped more than 40 percent. Oil has dropped 44 percent. Important metals like aluminium, copper, nickel and platinum have declined by a third or more.
The swift turnaround is the brightest economic news on the horizon for consumers, putting money into their pockets at a time when they need it badly. Gasoline prices in the United States are falling precipitously - about 24 cents during the past five days, to a national average of $3.21 a gallon, or 57.3 euro cents a liter, on Monday - and analysts say that pump prices could fall below $3 a gallon this autumn after a high of $4.11 a gallon in July.
Prices for most commodities remain elevated by historical standards, and they rose a bit on Monday amid the broad market rally. But the trend seems to be downward as traders weigh the prospect that the global economic crisis will lead to sharp drops in demand. The big question at this point is whether prices will drop all the way to historical norms or whether Asia’s continuing economic boom has set a floor.
The rapid commodity decline has eased fears of inflation, one of the reasons central banks were able to lower interest rates around the world last week in an effort to salvage economic growth. It also represents a fundamental shift of view that is driving markets these days.
A scant few months ago, Americans were seen as participants in a bidding war with the emerging Chinese, Indian, Russian and Brazilian middle classes for a basket full of products. But that was before an extreme slowdown in demand for things as diverse as gasoline and aluminium and the retreat of investment money from commodity futures into safer havens like government bonds.
The commodity bust began before last week’s broad market declines, though the panic has exacerbated the pressure on commodities. Oil dropped by 10 percent on Friday alone, but then recovered some of that loss Monday to settle at $81.19 a barrel, far below its high in July of $145.29.
“Commodities followed the euphoria cycle that we had along with housing,” said Robert Shiller, a Yale economist who specializes in market bubbles. “We had the idea that the world is growing very fast, people are getting very rich and, by the way, we are running out of everything. That theory doesn’t seem so good when the economy is collapsing.”
Some analysts, while welcoming the recent declines, believe prices are likely to remain above historical norms. Food, in particular, could be a continuing problem: today’s prices are still too high to allow many people in developing countries to afford adequate diets. Nor have the recent declines been passed along in American grocery stores, at least as of yet. The United Nations has projected that global food prices will remain elevated for years.
The price jumps of recent years served their economic function, calling forth additional supplies of many commodities – farmers planted every acre they could, mining companies opened new mines and oil companies went to the far corners of the earth to drill wells. In many cases, the prices also caused demand to decline even as supply started rising.
Americans, the world’s largest fuel consumers, have been cutting back on gasoline all year, and the decline is approaching double digits. Motorists pumped 9.5 percent less gasoline for the week ending Oct. 3 compared with the same week a year earlier, according to MasterCard Advisors, which tracks spending. In a report on Friday, the International Energy Agency cut its forecast for global oil consumption yet again, projecting that 2008 would end with the slowest demand growth in 15 years.
Big increases in world wheat production because of increased acreage in the United States, Canada, Russia and much of Europe have brought wheat prices to less than $6 a bushel today from nearly $13 in March.
Soybean prices have dropped to $9 a bushel from $16 since July, in part because of a record crop in China and a slowdown in Chinese imports. Corn prices are also easing amid expanded supply.
One theory among economists is that commodity prices are still at the beginning of a steep fall as the credit squeeze takes the world economy into a deep recession.
“When you have a seven-year bull run, you are going to have more than a four-month correction, and we are just beginning our fourth month,” said Richard Feltes, senior vice president and director of commodity research at MF Global Research. “We have got more deflation coming in the housing sector, in capital assets, and it’s going to continue in commodities as well.”
But many economists say a lasting price collapse is unlikely because the emerging middle class and growing populations in developing economies will continue to have strong appetites for fuels and metals.
Some say that the other commodity bull markets in modern history – roughly spanning 1906 to 1923, 1933 to 1955 and 1968 to 1982 – lasted more than twice as long as the current run. They included some sharp corrections before they ran their course, suggesting that the current drop, however precipitous, could be temporary.
Though the picture is slightly different for every commodity, prices generally hit a low point for the decade soon after the terrorist attacks of Sept. 11, 2001, then rose as the global economy strengthened in the following years. From late 2001 until mid-2008, the price of oil rose 800 percent, copper rose 700 percent, and wheat rose 400 percent.
The decline of recent weeks has taken virtually every major commodity more than halfway back to its late 2001 price, adjusted for inflation. The recent drop has been so rapid that if the pace continued, it would take only a few more weeks to erase the gains of the bull market entirely.
That suggests to some analysts that prices could hit a floor fairly soon. “The underlying fundamentals of strong demand for energy, food and industrial commodities will come back,” said Michael Lewis, global head of commodities research for Deutsche Bank.
Many analysts think oil could fall to $70 a barrel in the next few months, if not sooner. But it is hard for them to believe it will go much lower: oil is not becoming easier to find, as fields in Mexico peter out and suppliers like Iran, Nigeria and Venezuela remain unreliable.
The costs of finding oil in deep waters or mining oil sands in Canada remain high, in the $60 to $70 a barrel range – and since those are now vital sources of supply, they could help put a floor under the oil price. Additionally, the Organization of the Petroleum Exporting Countries could cut production to try to shore up prices, probably at an emergency meeting it will hold Nov. 18.
Analysts note that the credit crisis and economic slowdown will inevitably stall new industrial projects, reducing demand for metals. But the falling prices will also discourage new mining and drilling. When economic growth resumes, that could produce metal shortages that would drive prices back up.
The biggest single factor that will decide whether a prolonged bull market in commodities is over, or just in a lull, is the Chinese economy. The industrial development of that country in recent years was responsible for much of the world’s increased consumption of copper, aluminium and zinc, and almost a third of the increase in oil consumption.
Chinese growth has slowed but is still running above 12 percent, and that country is expected to undertake some huge projects in coming months as it repairs damage from earthquakes and storms.
Kevin Norrish, a senior commodities researcher at Barclays Capital, said that in a recent visit to China he found that domestic demand for copper was still strong but that exports were weakening. Chinese copper wire manufacturers, he said, “are very depressed indeed because their export orders have fallen a long way.”
He said that as high as prices for commodities rose in recent years, the bull run in the late 1970s and early 1980s was even more buoyant. Of all the major commodities, only oil at its peak in July traded at a higher price than in the last bull market, adjusted for inflation.
That previous bull run, stimulated by years of high economic growth and inflation, was followed by nearly two decades of weak prices that accompanied the transition in the United States from an industrial to a service economy. Then China and India appeared on the world stage as major economies at the turn of the new century, followed by the oil-driven economy in Russia and greater consumption in the Middle East the last four or five years. Norrish is one of many commodities analysts who believe that the story of China, India and other developing countries spurring commodity demand is not over.
“What we are seeing is a pause in what we see as a very, very long bull run,” Norrish said.
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Bull Market in Commodities at an End, for Now
By Clifford Krauss
13 October 2008
The global financial panic and the economic slowdown have put at least a temporary end to the commodity bull market of the last seven years, sending prices tumbling for many of the raw ingredients of the world economy.
Since the spring and early summer, when prices for many commodities peaked amid fears of permanent shortage, wheat and corn — two cereals at the base of the human food chain — have dropped more than 40 percent. Oil has dropped 44 percent. Important metals like aluminium, copper, nickel and platinum have declined by a third or more.
The swift turnaround is the brightest economic news on the horizon for consumers, putting money into their pockets at a time when they need it badly. Gasoline prices in the United States are falling precipitously - about 24 cents during the past five days, to a national average of $3.21 a gallon, or 57.3 euro cents a liter, on Monday - and analysts say that pump prices could fall below $3 a gallon this autumn after a high of $4.11 a gallon in July.
Prices for most commodities remain elevated by historical standards, and they rose a bit on Monday amid the broad market rally. But the trend seems to be downward as traders weigh the prospect that the global economic crisis will lead to sharp drops in demand. The big question at this point is whether prices will drop all the way to historical norms or whether Asia’s continuing economic boom has set a floor.
The rapid commodity decline has eased fears of inflation, one of the reasons central banks were able to lower interest rates around the world last week in an effort to salvage economic growth. It also represents a fundamental shift of view that is driving markets these days.
A scant few months ago, Americans were seen as participants in a bidding war with the emerging Chinese, Indian, Russian and Brazilian middle classes for a basket full of products. But that was before an extreme slowdown in demand for things as diverse as gasoline and aluminium and the retreat of investment money from commodity futures into safer havens like government bonds.
The commodity bust began before last week’s broad market declines, though the panic has exacerbated the pressure on commodities. Oil dropped by 10 percent on Friday alone, but then recovered some of that loss Monday to settle at $81.19 a barrel, far below its high in July of $145.29.
“Commodities followed the euphoria cycle that we had along with housing,” said Robert Shiller, a Yale economist who specializes in market bubbles. “We had the idea that the world is growing very fast, people are getting very rich and, by the way, we are running out of everything. That theory doesn’t seem so good when the economy is collapsing.”
Some analysts, while welcoming the recent declines, believe prices are likely to remain above historical norms. Food, in particular, could be a continuing problem: today’s prices are still too high to allow many people in developing countries to afford adequate diets. Nor have the recent declines been passed along in American grocery stores, at least as of yet. The United Nations has projected that global food prices will remain elevated for years.
The price jumps of recent years served their economic function, calling forth additional supplies of many commodities – farmers planted every acre they could, mining companies opened new mines and oil companies went to the far corners of the earth to drill wells. In many cases, the prices also caused demand to decline even as supply started rising.
Americans, the world’s largest fuel consumers, have been cutting back on gasoline all year, and the decline is approaching double digits. Motorists pumped 9.5 percent less gasoline for the week ending Oct. 3 compared with the same week a year earlier, according to MasterCard Advisors, which tracks spending. In a report on Friday, the International Energy Agency cut its forecast for global oil consumption yet again, projecting that 2008 would end with the slowest demand growth in 15 years.
Big increases in world wheat production because of increased acreage in the United States, Canada, Russia and much of Europe have brought wheat prices to less than $6 a bushel today from nearly $13 in March.
Soybean prices have dropped to $9 a bushel from $16 since July, in part because of a record crop in China and a slowdown in Chinese imports. Corn prices are also easing amid expanded supply.
One theory among economists is that commodity prices are still at the beginning of a steep fall as the credit squeeze takes the world economy into a deep recession.
“When you have a seven-year bull run, you are going to have more than a four-month correction, and we are just beginning our fourth month,” said Richard Feltes, senior vice president and director of commodity research at MF Global Research. “We have got more deflation coming in the housing sector, in capital assets, and it’s going to continue in commodities as well.”
But many economists say a lasting price collapse is unlikely because the emerging middle class and growing populations in developing economies will continue to have strong appetites for fuels and metals.
Some say that the other commodity bull markets in modern history – roughly spanning 1906 to 1923, 1933 to 1955 and 1968 to 1982 – lasted more than twice as long as the current run. They included some sharp corrections before they ran their course, suggesting that the current drop, however precipitous, could be temporary.
Though the picture is slightly different for every commodity, prices generally hit a low point for the decade soon after the terrorist attacks of Sept. 11, 2001, then rose as the global economy strengthened in the following years. From late 2001 until mid-2008, the price of oil rose 800 percent, copper rose 700 percent, and wheat rose 400 percent.
The decline of recent weeks has taken virtually every major commodity more than halfway back to its late 2001 price, adjusted for inflation. The recent drop has been so rapid that if the pace continued, it would take only a few more weeks to erase the gains of the bull market entirely.
That suggests to some analysts that prices could hit a floor fairly soon. “The underlying fundamentals of strong demand for energy, food and industrial commodities will come back,” said Michael Lewis, global head of commodities research for Deutsche Bank.
Many analysts think oil could fall to $70 a barrel in the next few months, if not sooner. But it is hard for them to believe it will go much lower: oil is not becoming easier to find, as fields in Mexico peter out and suppliers like Iran, Nigeria and Venezuela remain unreliable.
The costs of finding oil in deep waters or mining oil sands in Canada remain high, in the $60 to $70 a barrel range – and since those are now vital sources of supply, they could help put a floor under the oil price. Additionally, the Organization of the Petroleum Exporting Countries could cut production to try to shore up prices, probably at an emergency meeting it will hold Nov. 18.
Analysts note that the credit crisis and economic slowdown will inevitably stall new industrial projects, reducing demand for metals. But the falling prices will also discourage new mining and drilling. When economic growth resumes, that could produce metal shortages that would drive prices back up.
The biggest single factor that will decide whether a prolonged bull market in commodities is over, or just in a lull, is the Chinese economy. The industrial development of that country in recent years was responsible for much of the world’s increased consumption of copper, aluminium and zinc, and almost a third of the increase in oil consumption.
Chinese growth has slowed but is still running above 12 percent, and that country is expected to undertake some huge projects in coming months as it repairs damage from earthquakes and storms.
Kevin Norrish, a senior commodities researcher at Barclays Capital, said that in a recent visit to China he found that domestic demand for copper was still strong but that exports were weakening. Chinese copper wire manufacturers, he said, “are very depressed indeed because their export orders have fallen a long way.”
He said that as high as prices for commodities rose in recent years, the bull run in the late 1970s and early 1980s was even more buoyant. Of all the major commodities, only oil at its peak in July traded at a higher price than in the last bull market, adjusted for inflation.
That previous bull run, stimulated by years of high economic growth and inflation, was followed by nearly two decades of weak prices that accompanied the transition in the United States from an industrial to a service economy. Then China and India appeared on the world stage as major economies at the turn of the new century, followed by the oil-driven economy in Russia and greater consumption in the Middle East the last four or five years. Norrish is one of many commodities analysts who believe that the story of China, India and other developing countries spurring commodity demand is not over.
“What we are seeing is a pause in what we see as a very, very long bull run,” Norrish said.
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