Commodities have performed well so far this year, buoyed by strength in oil on the back of tight supplies, but worries that the economy is headed for a recession has fed losses among the industrial metals.
In Thursday dealings, the S&P Goldman Sachs Commodity index
trades more than 30% higher so far this year, up nearly 2% for the second quarter, but also down more than 6% for the month of June, following six consecutive monthly gains.
The year-to-date performance of commodities as an asset class has been “similar to riding the Tilt-a-Whirl,“ said Walter Kunisch, Jr., senior commodities strategist at Hilltop Securities, referring to a well-known ride that has free-spinning cars.
“The global political economy, country level political policies, China’s zero COVID policy, along with lingering supply chain issues and dynamic supply and demand variables have thrown market participants for a wild ride,“ he told MarketWatch.
Oil, natural gas and gasoline were among the standouts. The S&P GSCI Energy index
trades over 53% higher this year, on track for a quarterly gain of more than 11%, though down over 4% month to date.
“Years of massive underinvestment capped off by a pandemic are now rearing their head,” said Matt Sallee, portfolio manager and president at Tortoise. “Combine this with a year plus of mobility restrictions rolling off and supply simply can’t keep up, hence massive year to date gains in oil.”
U.S. benchmark West Texas Intermediate crude
trades 49% higher so far this year, while global benchmark Brent crude
has tacked on over 50%. U.S. benchmark natural-gas prices
have also climbed by around 56%. Gasoline futures
have gained nearly 60% this year, as the average U.S. price at the pump touched a record above $5 earlier this month.
Europe is “suddenly competing” with Asia for U.S. natural gas, and that market is also “suffering from underinvestment, further exacerbating the commodity market tightness,” said Sallee.
Given that, he sees oil and gas equities as an essential part of any investors’ portfolio, against a “macro environment of higher [interest] rates, inflation and energy security focus.” He expects commodity price inflation to persist for several years to come, and energy equities are the “perfect hedge,” adding that after several years of underperforming, the energy sector is in the “early stages of a multiyear up cycle.”
Even in a recessionary environment, Sallee said the world is not likely to experience much relief in oil and natural-gas prices. As the markets find out that Organization of the Petroleum Exporting Countries has “virtually no supply,” and an exodus by Western energy companies shows up in future Russian production, commodities will resume their upward move,” said Sallee.
On Thursday, OPEC and its allies, together known as OPEC+, confirmed a proposal to raise output by another 648,000 barrels per day in August.
Grains and livestock
Grains and livestock have also traded mostly higher. The S&P GSCI Agriculture index
up around 10% this year, but traded down 13% for the month and almost 10% lower for the quarter.
“Demand remains one of the most prominent known unknowns for [the] energy and livestock sectors,“ said Kunisch. Still, “we are cognizant of the broad domestic and global macroeconomic and political variables that can either temper demand or force a reallocation of global risk asset flows away“ from energy and livestock.“
Kunisch said Hilltop Securities sees a “protracted drought throughout the key cattle producing states…as the primary driver that has forced the liquidation of the domestic beef cattle herd.“ The impact of the contracting cattle supplies will result in higher prices throughout the cattle supply chain, which can drive downstream beef prices higher,“ he said.
Also year to date, wheat futures
eye a roughly 18% gain, soybeans are up 10% and corn has tacked on more than 7%.
The “dynamic and fluid global supply and demand structure“ of the grains, as well as energy and livestock, complexes have “exposed structural supply deficiencies and offered investors opportunities to realize outsized gains compared to equities and bonds,“ said Kunisch.
Industrial and precious metals
Silver and copper, meanwhile, are among the commodity decliners. The S&P GSCI Industrial Metals Index
has lost more than 10% year to date, down nearly 24% for the quarter and set to lose around 12% for the month.
Among the key factors contributing to the poor performance in copper and silver was the “much quicker pace“ of interest-rate hikes by the Federal Reserve and major central banks, said Chintan Karnani, director of research at Insignia Consultants. Lack of Chinese demand, with much of the nation in lockdown for a time and fear of a recession were also to blame, he said.
Karnani said he’s bullish on copper and silver, as well as all industrial metals, for the rest of the year, though copper and silver prices may not see big increases until August.
Chinese demand for industrial metals will likely rise very sharply in the third quarter as factories operate at a full capacity, Karnani said, and the global interest rate “rising spree“ by most central bank should top out by October.
Gold has also moved lower year to date, pressured by a stronger dollar and rising real interest rates, said William Cai, co-founder and managing partner at Wilshire Phoenix.
He expects the strong dollar and rising real interest rates to continue to pressure both gold and silver. However, “an unexpected quickening of economic deterioration could quickly lift prices toward the highest achieved early this year,“ he said.