Commodities | Aug 24 2007
By Greg Peel
There were a couple of days last week where commodity prices seemed extremely vulnerable. Traders in oil, base metals, grains and even gold looked to equity markets for direction, and collapses sparked fears of economic slowdown and falling commodity demand. But as the equity markets bounced so did commodity markets, and in the current period of relative stability commodities have managed to assume some of their previously lost identity.
Adding to the return to calm was the presentation made by outgoing BHP Billiton CEO Chip Goodyear on the announcement of the company’s record FY07 profit. Goodyear gladdened the hearts of commodity investors around the globe in suggesting that China and India would drive extraordinary demand for materials for decades to come. Goodyear’s authority on the subject stems from his position as the CEO of the world’s largest diversified miner. As to the impartiality of his predictions well – that’s another matter.
Nevertheless, Barclays Capital cites Goodyear’s words as an impetus for the return to calm. Equally as soothing was the news that Rio Tinto’s (RIO) takeover of Alcan was far from in jeopardy, despite seized credit markets, given its US$40 billion issue of corporate paper closed oversubscribed.
As an investment asset, commodities are still a relatively new kid on the block. Given CDOs are relatively new as well, it would not have been all that surprising if investors had suddenly run away in panic from these similarly untested risk instruments. But that has not been the case. Barclays reports issuance of new commodity structures – investment instruments of varying nature that are linked to commodity prices – has continued to gain momentum unabated. Liquidity has been ample, and there has been no apparent contagion from the credit crisis. Investors that have sought to close out positions have been able to do so well above par.
Barclays notes oil has been particularly volatile, adding weather-related concerns to economic slowdown fears, but a return to supply/demand disfunctionality should see oil eventually head back northward even if if falls into the low US$60s first. Nor is Barclays convinced a few subprime defaults will upset the general global demand picture.
Grains have remained strong, and will continue to be so, says Barclays. Within the base metals complex, zinc, tin and lead have the best upside, nickel still looks weak, and copper and aluminium will be weighed down in the short term by inventory increases.
The gold story continues to be one of push and pull. Gold ETFs have hit record volumes as some investors have shifted into the supposedly safe haven. But there always remains the risk in these volatile times that another big sell-off in equities could spark another round of asset liquidation – gold included. Indian demand for metal has been strong, but a reduction in miner dehedging in the second half will remove some bullish support. Central bank selling remains a wildcard, as while analysts expect sales to dry up ahead of the September cut-off, they’ve been caught out before.
And no one knows what the reaction might be from certain influential central banks, concerned over the fate of their fiat currencies, if gold starts to push back to US$700/oz once more.
