Head of Commodity Strategy
Summary: The commodity sector suffered a November setback with losses across the energy sector, not least for US natural gas, more than offsetting gains across the other sectors, led by precious metals which topped the performance table for a second month, and the softs sector a close second driven by strong coffee and cocoa gains
The commodity sector suffered a November setback with losses across the energy sector, not least for US natural gas, more than offsetting gains across the other sectors, led by precious metals which topped the performance table for a second month, and the softs sector a close second driven by strong coffee and cocoa gains. Overall, the Bloomberg Commodity Total Return index, which tracks a basket of 24 major commodity futures spread evenly between energy, metals and agriculture lost 2.3% in November, thereby raising the loss for the year to 5.4%. With global stocks recording meanwhile one of their best Novembers in recent memory, the underperformance of the commodity sector was among the worst this century. It is however also worth noting that the mentioned index, excluding the 26% loss in natural gas would have traded flat on the month.
The growth and demand-dependent energy sector traded lower in response to continued worries about the near-term direction of the global economy, not least in China where data continues to point to softness, and the US where the prospect of a soft landing helped support the strong gains seen in precious metals after central bankers added fuel to the peak rate scenario that had been building in recent weeks. The latest voluntary production cuts announced by OPEC and friends on Thursday did little to shore up confidence in a crude oil market that has been struggling for the past two months amid a shift in focus from tight OPEC+ supply towards rising non-OPEC production and the prospect of an economic slowdown in the coming months lowering the outlook for crude demand growth in 2024.
Topping the table for a second month we find precious metals and, while wrong-footed short sellers and geopolitical tensions supported a strong gold rally during October, silver spent November reclaiming lost ground, driven by its relative cheapness to gold and some traders switching their focus to silver as gold approached $2000 and an area that so far has proven difficult to break above.
The tailwinds that have supported these gains are easy to see, not least this past month, when a growing belief in US peak rates drove down the dollar by around 3% against its major G-10 peers while US 10-year Treasuries celebrated their best month since the 2008 global financial crisis with the yield crashing 60 basis points to 4.33%. A turnaround from last month when it was threatening to break above 5%.
The latest trigger came after Fed governor Waller, normally a reliable hawk, suddenly converted to the dovish camp by saying "I am increasingly confident that policy is currently well positioned to slow the economy and get inflation back to 2%,". The market concluded that Waller would not have expressed such a major change in stance without a nod from Fed chair Powell, resulting in the market now almost pricing in five full 25 basis points cuts next year with the through in rate cuts expected around December 2025 at 3.5%.
We maintain a bullish outlook for gold into 2024 in the firm belief that rates have peaked and that Fed funds and real yields will start to trend lower. However, with a great deal of easing already priced into the market, the chance of a straight-line rally is unlikely, and both silver and gold will continue to see periods where convictions might be challenged. It is also worth noting the continued lack of demand from ETF investors, not least asset managers who remain sidelined amid the wide gap between gold and US real yields as well as the current high cost of carry which will only come down when the Federal Reserve starts cutting rates.
From a technical standpoint, the 50-day moving average is about to cross above the 200-day and, as long spot gold holds above $2007, the technical setup points to higher prices, with a break above $2063, the August 2020 record closing high, signaling the potential for an extension towards $2130.
Crude oil prices suffered another monthly setback with Brent trading precariously close to $80, and levels producers have tried to avoid – not least Saudi Arabia which has already reduced production this year by more than 1.3 million barrels a day to support stable and not least higher prices. However, rising non-OPEC production and a jump in production from OPEC members not bound by a production ceiling have upset the plan. With the focus turning to a softening demand outlook, the group was forced once again to act.
At their first meeting since June, delayed by four-days due to discord, the OPEC+ group of producers announced 900,000 barrels a day of fresh voluntary output cuts from January, raising the total cut this year to around 2.2 million barrels a day. However, with the cuts only being supported by a handful of producers and with no additional cuts from Saudi Arabia, the failure to secure a group-wide agreement does not bode well for the group’s unity going forward – especially if demand continues to slow, forcing more unpopular and economically challenging decisions. Also hurting sentiment was a month-end report from the EIA showing US crude output hitting a record high of 13.24 million barrels a day in September, a year-on-year increase of more than 0.9 million barrels a day.
Given the current outlook for continued demand growth in 2024, albeit at a lower rate than 2023, the risk of much lower prices seems unlikely, we expect Brent crude will spend the coming period trading mostly in an $80 to $90 range with the biggest downside risk being lack of compliance and worries about OPEC+ unity. The upside potential is limited by the continued rise in production spare capacity, especially among producers in the Middle East, led by Saudi Arabia and the UAE.
With the current focus on an economic downturn potentially hurting demand for growth-dependent commodities, we have recently been reminded that prices are not only dictated by demand but also the availability of supply. The Bloomberg Softs subindex which tracks the total return performance of coffee, cocoa, sugar, and cotton reached a nine-year high last month, supported by adverse weather impacts on production, especially across the Southern Hemisphere where the impact of a returning El Niño is being felt, in the process driving down available stocks. Arabica coffee jumped 13% last month in response to a decline in exchange-monitored warehouse stocks to the lowest level since 1999, partly driven by a rule change banning the resubmission of old coffee beans.
Another important development during the past month has been the Panama government’s decision to shut First Quantum Minerals Ltd.’s Cobra operation which produces about 1.5% of the world’s supply of copper, the so-called king of green metals, given its importance for a successful energy transition. In recent updates, we have been highlighting the risk of copper demand exceeding supply in the coming years, driven by rising demand for green transformation metals and mining companies facing rising cash costs driven by higher input prices due to higher diesel and labour costs, lower ore grades, rising regulatory costs and government intervention, and not least climate change causing disruptions from flooding to droughts.
The Panama government’s intervention that followed weeks of protest after the company had been given a multi-decade operating contract, has now led to the closure of one of the world’s biggest and newest mining operations and Panama’s second biggest employer, and it highlights the increased risk miners may face in the coming years. Peru is the world’s second-largest copper producer after Chile, and its mining industry is also struggling to find a balance amid rising political uncertainty and the probability of anti-mining protests disrupting mine operations.
Copper rose 5% last month, at first supported by speculation the Federal Reserve’s aggressive rate hike cycle has reached the end of the road, before supply worries gave the price an additional lift. Earlier this year, the sector went through a destocking phase amid high interest rates raising the cost of holding inventories while at the same time putting a brake on economic activity. During the same time however, a better-than-expected demand situation in China helped underpin prices with the latest data from Goldman showing a 10% year-on-year increase so far this year, with green transformation industries continuing to increase demand.
A situation highlighted by a drop in Chinese exchange-monitored stocks to the lowest level since 2017, in the process offsetting a rise at the London Metal Exchange, which has been dominated by arrivals from Chile and Russia. The copper premium, or the fee traders pay for imported cargoes at the Yangshan port in Shanghai over benchmark prices on the London Metal Exchange, has – because of strong demand – reached the highest level in a year, according to Shanghai Metals Market.
Responding to these developments, the HG copper futures contract has reached an 11-week high at $3.88 per pound, in the process breaking back above the 200-day moving average. Our structural long-term bullish view on copper has only been strengthened by these developments – and without a resolution, the global copper market is likely to see a deficit emerge already next year, potentially forcing prices higher sooner than expected.
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