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Commodities as an asset class
Making long-only investments in commodity futures came into vogue about a decade ago, based on the premise that they offered inflation protection and equity-like returns without being correlated to stock markets. On that score, this premise has certainly held true: with inflation modest, the Bloomberg Commodity Index has dropped 27 per cent in the past five years in an unflattering lack of correlation with soaring equities. Watch for more portfolio managers throwing in the towel on commodity indices and virtual silence in world capitals about problems caused by speculators.
The cartel’s November decision— led by its largest producer and de facto leader Saudi Arabia — to hold production at 30m barrels puts at risk economically weaker members. Venezuela risks default and Nigeria’s economy is financially crippled, while Libya and Iraq are in the throes of violent conflict. If prices continue to drop the following need to be watched: how internal Opec relationships play out (in the face of a nuclear deal with Iran or even higher production from Iraq for example), which members buckle first, do Gulf nations continue with their spending programmes, and how the cartel faces off with non-Opec producers.
Will US oil production be falling by the end of 2015? The answer to that question will depend on a number of factors. Small and midsize companies rely heavily on debt financing but in a low-price environment they may be forced to revise their drilling plans. On the flip side, cost cutting and technological advances may help boost the productivity of wells and keep things ticking over. Oil market analysts will be keeping an eye on investment levels, production numbers, rig counts and restructuring efforts.
China’s National People’s Congress
Commodities markets will be looking for any pro-growth policies from China this year. The gathering of China’s National People’s Congress on March 5 will see the release of official economic growth targets as well as reform policies. It will be followed by the Central Economic Work Conference in December. Both will be key political meetings to watch for signs of what level of growth the country’s leaders are willing to tolerate as they seek a consumption and innovation-led economy.
On February 12 Rio Tinto will announce its annual results. The figures are widely expected to be accompanied by a $4bn-$5bn share buyback. But if the cash return disappoints — either in size or how it is funded (a big working capital release might be frowned upon by investors) — Rio could leave itself vulnerable to another overture from Glencore. The Swiss-based group can make another approach again from April.
Citi vs Mercuria
The Qingdao warehousing scandal in China cast a long shadow over the metals market in 2014. It could do so again in 2015 if the UK High Court finds in favour of Mercuria in its dispute with Citi over a $270m metals financing deal. The legal tussle could lead reassessment of how banks do commodity-backed financing if the US lender is not able to demand repayment. A verdict is expected by the end of the month.
Morgan Stanley’s physical oil business
The US bank may have had to abandon the sale of its physical oil business to Rosneft, but all eyes are on what they will do next. Ironically, the sharp fall in the oil price and the futures curve falling into a fairly steep contango, where crude for near-term delivery falls below future contract prices, means that Morgan Stanley is likely to benefit from a “storage play”.
Expect Brazil’s agricultural growers to be undeterred by weaker markets in sugar, soyabeans and coffee as long as the currency remains weak. In real terms, sugar is down 11 per cent from its 2014 high in March, compared with 23 per cent in dollar terms. Soyabeans and coffee prices in real have also fared better. As long as the dollar remains strong, expect producers’ selling to continue.
A shrinking copper surplus
The closure of Chinese smelters and the slower-than-expected ramp-up of new mining capacity forced analysts to pare back copper surplus forecasts in 2014. And they could be taking the red pen to forecasts again if demand in China picks up. Things to watch include the state-owned monopoly State Grid and its plans for investment from power lines. While its chairman Liu Zhenya was implicated in an anti-corruption campaign in May, which slowed investment, he reappeared to give a New Year’s speech to the company in January, according to its website.
The long boom in grain prices may be over. After two years of buoyant production of corn, wheat and soyabeans, the cushion of cereals stocks is now equal to 25 per cent of annual global consumption, the highest ratio in more than a decade, according to the UN Food and Agriculture Organisation. This means even erratic weather in 2015 will not provide the same kind of charge to grain futures markets as it did in 2008, 2010 or 2012 — three recent years with price spikes. Ample volumes should in theory benefit agricultural trading houses as they run processing plants and storage silos at full capacity, though slow-selling farmers and softening growth in China could yet pinch results.
The Commodities Note is an online commentary on the industry from the Financial Times
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