Key Takeaway Points
- The influx of global economic crises has had a bearish impact on numerous commodities, including energy, ferrous metals, and even precious metals.
- Supply and demand economics over the long-term have contributed to the problem, with rising energy production and long-term slowing of demand in China.
- There are a few bright spots that traders may want to consider, including wheat, canola, and possibly ethanol, as well as precious metal mining equities.
There has been no shortage of bad news for the global economy over the past couple of months — this precariousness has taken a toll on many economically-sensitive commodities.
Greece narrowly reached a $96 billion deal designed to keep the country afloat — at least for the time being — but Eurozone ministers have demanded some tough concessions. Greece must implement broad reforms that include cuts to pension funds and tax increases that could be politically difficult to make. While the IMF has called for greater debt relief — such as a 30-year grace period and a dramatic maturity extension — many European countries seem unwilling to budge on their demands, which could end up creating a cycle of debt.
Chinese regulators imposed numerous trading restrictions and took unprecedented measures to support its stock market following a precipitous decline. The central bank provided more cash to a state-run firm that provides margin for investors; initial public offerings were suspended to constrict supply; trading was suspended for half of listed companies on China’s two major exchanges; majority shareholders were banned from selling; and, companies were ordered to either buy their own shares or encourage executives to do the same.
The U.S. economy has been faring a bit better, but investors remain concerned over the possibility of a rate hike in 2015. Earlier this month, the International Monetary Fund warned that “the Federal Reserve risks stalling the U.S. economy by raising interest rates too early” and urged the central bank to delay any such moves until 2016. The real concern, however, is that any rise in the U.S. dollar, which would result in investors continuing to plow funds into dollar assets, could have a detrimental impact on global growth.
Meanwhile, In Puerto Rico
Puerto Rico — a U.S. territory — has also been on the radar of investors following revelations that it may not be able to make good on its debts. With about $72 billion in outstanding debt, the country is unlikely to affect the global markets in a major way. The U.S. doesn’t provide bankruptcy protection to the island — as it does with U.S. states — but those laws could change with a new bill being sponsored by Pieluisi in the House. These requests have even seen support from U.S. presidential candidates like Hilary Clinton.
Impact on Commodities
Commodities have tumbled over the past couple of weeks amid the drama. Over the past month, crude oil prices have tumbled roughly 15% and natural gas prices have fallen about 2% amid predictions of lesser demand in China and Europe. Precious metals like gold and silver also fell by 3% and 6% over the trailing 1-month period, respectively, despite their usual status as safe-haven investments during times of crisis. Other metals like copper and platinum also fell due to a perceived slowdown in demand over the coming months.
But, these short-term trends are a drop in the bucket compared to the long-term dynamics putting pressure on commodities — especially energy prices. Crude oil prices are more than 50% lower than they were a year ago, while natural gas prices are about 34% lower. These trends are driven less by the near-term economic crises and more by a massive oversupply created by OPEC and non-OPEC countries, as well as long-term slowing demand from China. Unfortunately for oil firms and bullish traders, these trends aren’t expected to reverse anytime soon.
The “International Energy Agency”: https://www.iea.org/oilmarketreport/omrpublic/ predicts that these bearish trends in energy will continue, with demand forecast to slow and supply expected to continue to surge. In a new report, the IEA projected that global demand in oil would slow to 1.2 mb/d in 2016, from an average of 1.4 mb/d this year, with demand having peaked in Q1 2015 at 1.8 mb/d. At the same time, the organization noted that oil inventories hit a record 2,876 mb in May, while production hit a three-year high led by record output in Iraq, Saudi Arabia, and the UAE.
Aside from energy commodities, ferrous metals have been falling steeply because of China’s long-term slowdown and the near-term risks posed by the Greek crisis. The slowing Chinese economy has led to less demand for steel, copper, and other construction materials used to build infrastructure, skyscrapers, and apartments, while Greece’s actions risk slowing the Eurozone economy and putting further pressure on prices. Similar to energy, these trends are unlikely to reverse until the global economic picture becomes a little clearer.
The big surprise amid the economic mess is precious metal prices, which tend to increase during times of crisis. Despite the growing economic malaise, gold prices have tumbled more than 13% compared to a year ago, while silver and palladium have fallen around 30%. Some analysts believe the lack of demand for these metals is due to less fear than when the Eurozone crisis first emerged, while others point to the possibility of higher interest rates as a reason for investors steering clear of gold — which is a zero-yielding asset.
Hidden Gems in the Rubble
Commodity investors aren’t completely without luck when it comes to finding investment opportunities. As the value of resource-linked currencies, like the Australian dollar, move lower, mining companies that have their costs denominated in those currencies have increased in value. In effect, companies that mine precious metals could end up becoming the “safe haven” asset of choice rather than buying the physical commodities, although the risk of a significant drop in commodity prices may still outweigh the lower costs of production.
Some commodities have been strong winners over the past year. For instance, Ethanol prices are up nearly 30% due to robust fuel demand, which itself is due to lower crude oil prices. However, there’s a political risk associated with the commodity in the form of oil refiners that have threatened legal action to overhaul the program, mandating ethanol’s use in fuels and U.S. lawmakers considering a bid to defund the program. The market’s supply could also rise as producers rush to capitalize on the rising prices over the near-term.
Many agricultural commodities have also been on the rise thanks to the worst drought conditions in the Canadian provinces of Alberta and Saskatchewan in nearly 30 years. El Nino weather problems around the world threaten to bring an end to the favorable weather conditions and progressively lower grain and oilseed prices in recent years, according to Scotiabank analysts. Canola oil has been an especially big winner — up nearly 10% this month and 30% over the past year — due to frost and dry conditions throughout Canada’s growing areas.