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Commodity Monthly

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Fundamentals at play

Tue, May 6 2008, 14:28 GMT
by Arne Lohmann Rasmussen

Danske Bank A/S

Market confidence that the worst may be over with regard to the US and hence the global economy increased in the past month. Equities have rallied and credit market spreads have tightened. Furthermore, it seems that the apparently unstoppable rally in EUR/USD has come to a halt. The one thing still bugging the financial market is the continuing problems in the money market – as represented by the very high money market fixings.

When the commodity rally kicked off earlier this year, speculative interest, asset re-allocation into commodities – from other assets that were under pressure – and dollar weakness were blamed for the higher prices. Hence, the obvious question to ask now, when optimism is bubbling and USD has regained some strength, is if the fallout will be a bloodbath in commodities.

There seems to be is no clear answer to the question, however. Energy prices are trading close to all-time highs, with Brent oil up more than 22% on the year. Copper and aluminium prices are up 26% and 21%, respectively, on the year. In contrast, some commodity prices are under pressure. Gold has fallen almost 15% from its peak, as investors abandoned this traditional safe-haven metal for other asset classes as optimism returned to the markets. The abrupt comeback of the dollar has also pushed gold lower. Some grains have also suffered. Wheat is down almost 50% from its absolute peak in March, and up just 5.4% when looking at the CBOT price since January 1st. On the other hand, corn prices have continued to climb, reaching an all-time at the beginning of May.

Our long-held view is that commodities are primarily being driven by fundamentals. This is why wheat prices are under pressure and corn prices are skyrocketing – farmers are planting a lot of wheat this year at the expense of corn. Meanwhile, oil prices have been immune to the apparent stabilisation of the dollar and the optimism in other markets, and we, in fact, foresee an even tighter oil market for the rest of 2008. We have therefore revised our oil price forecast higher for 2008 and 2009. We now expect the current elevated price to hold for the rest of 2008, and see a growing risk that oil prices might spike even higher. We are starting to see some signs of stabilisation in the US economy, which will most likely avoid an outright recession. If the commodities market moves away from its general expectation that US gasoline demand will fall in 2008, the driving season could be a very hot time in the oil market this year. The pain of the global consumer with respect to energy prices might not have peaked just yet.

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Published on  Tue, May 6 2008, 14:42 GMT