Head of Commodity Strategy
Key points
As we enter Q3 2024, economic growth remains robust, sectors such as defence, AI and obesity drug manufacturing are booming, and asset prices are at an all-time high. But could factors such as unsustainable fiscal spending in the US, geopolitical shocks or gloomy demographic trends destroy our fragile sandcastle economy?
Join SaxoStrats for an Outlook webinar on Monday 1 July at 11:00 GMT as they discuss the general macro-outlook while focusing on the individual asset classes from equities and bonds to forex and commodities.
The commodities sector spent the month of June consolidating after a strong rally in the previous three months saw traders switch their focus to profit-taking amid signs some of the strong gains had occurred without support from underlying fundamentals. The most notable examples being copper, which by mid-May traded up 32% on the year, with other examples being silver, natural gas, and wheat.
Overall, the Bloomberg Commodities Index Total Return index, which tracks the performance, including roll yields, of 24 major commodity futures contracts spread almost equally between energy, metals, and agriculture, nevertheless managed a back-to-back quarterly gain bringing the year-to-date return to 6%, somewhat less than the MSCI World which delivered an 11% return. Also worth noting is that the first half of the year has seen the dollar gain close to 5% while US 2024 rate cut expectations have slumped from around seven to just two 25 basis point cuts, thereby keeping the cost of funding relatively elevated, preventing a long-awaited period of industry restocking of key commodities.
Heading into the third quarter, the macroeconomic landscape remains mixed. China remains a concern, despite efforts to bolster activity and address challenges in its property sector, while US economic growth remains robust and around trend growth with historically loose financial conditions, reflected in low credit spreads, despite an aggressive increase in monetary policy rates. The combination of excessive US fiscal policy since the pandemic and strong investments in artificial intelligence, defence, semiconductors, and obesity drug manufacturing has created surprisingly resilient economic growth.
Labour markets in Europe and the US are cooling but still as tight as they were before the pandemic, while inflation in the US and Europe has turned out to persist at a higher level than initially thought. But it is easing to levels that are causing people to recoup some of their lost real income during the inflation spike, creating income-driven economic growth. While some central banks in major economies have changed their tune to signal additional rate hikes amid persistent high inflation, the ECB has made its first cut without committing to more, while the US Federal Reserve is still sitting on the fence, projecting just one 25 basis point rate cut this year as opposed to the market's expectation for two cuts.
Industrial metals topped the table with a second quarter gain of 10% (8% YTD) being driven by strong gains in zinc and tin, and despite giving back half its October to May gain, copper still managed to return around 11%. Precious metals came second, led by silver's 18.5% gain (21% YTD) followed by gold’s 5% (12.5% YTD); the latter reached a fresh record high before settling into a wide range, while silver's rally to an 11-year high, supported by surging copper, saw it break above USD 30 before running out of steam as copper retreated. The energy sector came third, with a strong rally in natural gas being only partly offset by weaker fuel prices and a rangebound crude oil market.
The agriculture sector recorded a quarterly loss driven by continued weakness in grains, down 4% on the quarter and 12% YTD, and pressured by a large carryover of stocks from last year’s harvest. Partly offsetting those losses were a mixed softs sector that saw adverse weather-related gains in coffee being partly offset by ample supply of sugar and cotton, as well as profit-taking in cocoa following its 126% first quarter surge.
US and European natural gas were two of the top performers during the quarter, with US prices being supported by the decision by several producers to make temporary production cuts in order to boost prices after the Henry Hub benchmark contract spent a three-month period until April trading below USD 2 per MMBtu (EUR 6.4 MWh). Despite a large carryover of stocks following a mild 2023/24 winter, the Dutch TTF benchmark rose to trade around EUR 35 per MWh (USD 10.9/MMBtu) supported by hot weather demand in southern Europe, concerns about Russian supplies, and not least increased competition with other major gas consumers, especially in Asia, for liquified natural gas cargoes (LNG). A fraught geopolitical situation in Europe could still end up with Russia cutting its remaining supply through Ukraine, and it will force the EU to compete even harder for more LNG, potentially at higher prices.
Crude oil futures in New York and London remain stuck in their tightest ranges since 2021, and the narrowing range has during the past year resulted in a succession of lower highs and higher lows. In fact, since Q4-2022 Brent, the global benchmark, has been averaging close to USD 83.50 per barrel, just a few dollars below the current price, and overall it highlights how production restraint by OPEC+ since April last year has helped deliver a period of stable prices, most likely at lower levels than originally anticipated by the group, many of which need prices of Brent, the global benchmark, to trade closer to and preferably above USD 90 per barrel in order to balance their budgets.
From a relatively weak start to the year amid concerns about Chinese demand and the negative impact of high funding costs following the most aggressive rate hiking campaign by the US Federal Reserve in decades, the crude oil market has since moved higher with most of the major movements being driven by the ebb and flow of a geopolitical risk premium, and with that the buying and selling from hedge funds looking for momentum.
We maintain a constructive view on demand into the third quarter amid strong summer demand for fuel towards mobility and cooling, followed by a focus on OPEC+ and their ability to carry out the announced production increase starting October. Overall, a massive gap in the 2024 demand growth expectations between OPEC (2.2mb/d) and the IEA (<1mb/d) needs to narrow, and the price direction will be determined by who is correct. Overall, we see a limited risk of Brent trading outside the USD 80’s in the coming months.
Gold reached a fresh record at USD 2450 on May 20, almost reaching our revised 2024 target of USD 2500 before running out of steam, in part following news that the People’s Bank of China, after 18 months of non-stop buying, paused their purchases in May. China, a major driver of the gold rally in the past two years, is in our opinion nowhere near done buying gold, but the pause shows they are balking at the prospect of paying record prices. Also, the recent attention paid to Chinese private buying has likely thrust them into a spotlight they normally avoid. Overall, gold is still consolidating, and the news will likely prolong that phase, but overall, the long-term bullish outlook has not changed.
Multiple geopolitical hotspots remain with focus on Russia-Ukraine, Israel-Hamas, a brewing trade war between China and Europe/USA, and not least the upcoming US presidential elections where the US voter has to choose between two increasingly unpalatable candidates.
For now, gold remains stuck in a wide range with support continuing to emerge below USD 2300 while resistance has been established ahead of USD 2400. From a continued bullish perspective, traders will be watching gold’s ability to avoid a larger correction, thereby managing to hold above technical levels which otherwise may trigger long liquidation from managed money accounts, currently holding an elevated speculative long in the futures market.
Wherever gold goes, silver tend to go faster, and that has most certainly been the case this year after silver supported by gold and importantly also copper strength surged to an 11-year high before running out of steam as gold paused and copper went through a sizable correction. Looking ahead, the prospect for continued gold support and copper eventually stabilizing could see silver break higher later this year, potentially not until the final quarter.
Copper is currently undergoing a prolonged consolidation phase following May’s speculative, but unsustainable, surge to record highs in London and New York. A rally that occurred while Chinese stockpiles reached a four-year high, reminiscent of the Covid demand collapse. Additionally, the premium Chinese importers normally pay over LME copper disappeared, another sign of an oversupplied market with Chinese exporters now pushing copper back into the global market, leading to rising stocks at warehouses monitored by the London Metal Exchange
While the medium to long-term outlook points to higher prices, the timing of the latest surge was wrong given the need for fundamental support to support a sustained price increase. Recent mentions of AI and anticipated power demand for data centres attracted new investors to copper, though some may not fully understand commodity dynamics, where prices are driven by current supply and demand balances. Long-term fundamentals support robust future demand for copper from electric vehicles, grid infrastructure, and AI data centres, while production may struggle to meet demand, leading to potential supply deficits. Miners need higher prices to justify investments in new discoveries, which take over a decade to yield returns.
Wheat prices have gone full circle this quarter, initially rallying more than 35% from a four-year low on Russian weather-related crop production concerns, only to be forced back down amid US harvest pressure and rains in Russia easing concerns. While the weather in the US remains non-threatening to the different crops, these developments highlight another volatile weather season which may still spring price surprises. On June 28, the USDA will publish its quarterly stocks report and due to a large carryover from last year and tepid export demand, expectations if realised would bring soybean stocks to a 2-year seasonal high, wheat to a 3-year high and corn to a 4-year high. Responding to months of weak price actions, hedge funds are currently holding net short positions in all the three major crops, and it will need a change in the technical and/or fundamental outlook for them to turn price supportive buyers.
Recent commodity articles:
26 June 2024: Crude seeks support from seasonal demand strength
24 June 2024: Copper's resilience despite China weakness
18 June 2024: Precious metals go through prolonger period of consolidation
17 June 2024: COT: Dollar long jumps; Funds start rebuilding crude long
14 June 2024: Commodity weekly: Energy sector gains counterbalance metal consolidation
13 June 2024: Oil prices steady amid divergent OPEC and IEA demand projections
10 June 2024: COT: Brent long cut to ten-year low; metals left exposed to end of week slump
3 June 2024: COT: Crude length added before OPEC+ meeting; gold and copper see profit-taking
31 May 2024: Commodity weekly: Strong month despite late decline in crude and fuel
27 May 2024: COT: Gold and crude see increased demand as dollar longs plummet
24 May 2024: Commodity weekly: agriculture surges, metals fall on fading rate cut hopes
23 May 2024: Podcast: 2024 is heavy metals
22 May 2024: Crude oil struggles near two-month low
17 May 2024: Commodity weekly: Metals lead broad gains
16 May 2024: Gold and silver rally as soft US data fuels market optimism
15 May 2024: Copper soars to record high, platinum breaks out
14 May 2024: COT: Crude long slump; grain purchases surge
8 May 2024: Fund selling exacerbates softening crude outlook
8 May 2024: Grains see bumpy start to 2024 crop year
6 May 2024: COT: Commodities correction spurs muted selling response
3 May 2024: Commodity weekly: Grains boost, correction in softs and energy
2 May 2024: Copper's momentum-fueled rally halts amid weakening fundamentals
2024: The wasted year
Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
