INVESTING IN COMMODITIES
connections. If the global slowdown continues it is this part of the complex which currently looks the most vulnerable.
The Case For Commodities With global growth stalling many investors are again
from the policies set up by western governments in the 1970s to support agricultural development – the global food equation is now shifting towards chronic shortages. And food and energy prices are increasingly linked in ways which extend beyond the simple pass-through of input costs to agricultural production. Both energy and agricultural sectors now face huge challenges in meeting future demand and mitigating price volatility. To compound matters, biofuel policies are not currently aligned with food security goals – investigated here by RossMcCracken, editor of the Energy Economist with Platts [see page 57]. In the energy sector, oil demand
may be weak but supply seems weaker still. Hussein Allidina, Head of Global Commodity Research with Morgan Stanley recently downgraded their growth forecasts, prompted by disappointing developed world economic data, policy errors in the US and Europe, and the prospect of fiscal tightening in 2012. However, if their analysis is correct – with emerging market growth remaining reasonably firm – global oil demand will continue to grow, albeit at a slower pace, beckoning higher prices [see page 37].
questioning whether commodities (especially gold) are in a bubble. This, you would expect, might make them reluctant to commit new money to this asset class. But recent evidence points to the contrary. While many cyclically oriented commodities have been under pressure and are likely to remain that way, “investors should consider maintaining a strategic weight to commodities as an asset class”, says Russ Koesterich, iShares Global Chief Investment Strategist. Although individual commodity prices can be extremely
volatile, over the past 25 years the volatility of a broad commodity index has been in line with that of developed market equities. Furthermore, across a long-term horizon commodities are diversifying and have historically helped improve the risk/ return characteristics of a portfolio. “While the lack of a dividend or income stream makes commodities difficult to value, we find little evidence to support the notion that the entire commodity complex has entered into a bubble,” Koesterich confirms. “That said, the future trajectory for commodity returns will largely be determined by the macro environment. Over the long- term, commodities – and gold in particular – have historically benefited from inflation and a weak dollar. In addition, the returns of more cyclical commodities like industrial metals are influenced by economic growth.” Koesterich may be telling us what we already know (or what we already believe) but his comments, often repeated elsewhere, could find added credence given what we have already considered.
Arguably, the greatest determinant of commodity performance
A structural increase in raw materials prices is in fact an inevitable consequence of chronic resource insufficiencies ...
Meanwhile, industrial metal prices
have recovered from the recent sell- off. Interestingly here, prices remain closely tied to equities, particularly for copper with its bellwether IP
34 September 2011
is likely to remain the level of real interest rates. Historically, commodity prices have benefited the most not from inflation, but from low or negative real rates, which lower the opportunity cost of holding an asset that produces no income. Perversely, as long-term interest rates fall, even in the face of stabilizing inflation, this is arguably supportive for commodities. To the extent long-term rates
remain low or negative – even in the context of a slow growth economy – this may be the most important consideration for the asset class in general, and for gold in particular,” says Koesterich. And his defence of commodities as an asset class is mirrored elsewhere by professional investment managers.
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