Commodities may be set to surge if worries about slowing economic growth subside and the oil glut is addressed.
Commodity prices across the spectrum are down at least 20% from their 52-week highs, but could rebound sharply in 2019, if concern over slowing economic growth and the trade war between the US and China lifts.
Goldman Sachs predicted that commodities could surge around 17% in just a few months, but that forecast depended on progress being made in resolving the US and China’s differences when the countries’ two presidents met at the G20 summit in Argentina in December. The meeting achieved agreement on a 90-day truce, but not much else.
Oil has been in oversupply since November, when Trump all but tricked Saudi Arabia into ramping up its production to counter his threats to block Iran’s oil exports. Trump then U-turned, allowing eight big oil importers, including China, to continue importing from Iran without penalty. This meant an additional 1.2 to 1.5 million barrels a day of Iranian oil suddenly flooded the market, causing crude futures to tumble by 20% – the biggest fall since 2014.
Previously, analysts had forecast that Brent crude would hit $90 a barrel by 2020. As at 12 December, the price has slumped back to $51, but Saudi plans to slash its oil exports by 500,000 barrels per day, and Opec producers are likely to agree a cut in output when they meet later in December, which will ease the glut. Banks have therefore lowered earlier forecasts: JP Morgan for example estimates $73 a barrel in 2019, but this is 12.6% below its previous forecast of $83.50.
“Saudi needs Russia and other Opec members to come together and achieve the aggregate one million barrels per day production cut to balance the market and support falling prices,” says Brian See, vice president, energy at CIBC Global AM. “Overall, we are still constructive on oil prices longer-term. Demand continues to grow at over one million barrels per day and lack of reinvestment in the past four years will lead to a supply crunch down the road.”
Gold also struggled in 2018, hovering around $1,200 over the past three months; but it could go as high as $1,350 next year, according to Bank of America Merrill Lynch, as investors seek a safe haven from a US economy that ultimately will be damaged by trade wars and Trump’s tax cuts, creating an even wider US budget deficit. Current spending levels, together with the tax cuts, are set to push the budget deficit to $1 trillion by 2019-20, according to the Congressional Budget Office, encouraging investors to buy gold to allay worries about inflation.
Strong dollar reversing?
The strong dollar and rising interest rates also have implications for precious metals, because gold and silver look unattractive to investors when a reasonable rate of income is available from cash and bonds.
The dollar index, which measures the greenback against six major currencies, made a series of multi-year highs in late 2018, but the good news for gold bugs is that the market has probably priced in 10 out of 12 of the Federal Reserve’s expected rate hikes, and the strong dollar trend could be reversing.
Gold has also benefited from central bank buying, which peaked in the third quarter of 2018 at £4.5 billion, up 22% on the same quarter in 2017.
How to buy the sector
Exchange traded commodities (ETCs) use futures to track the underlying commodity and buy a series of contracts with different maturities, replacing contracts approaching expiry with longer-dated ones. ‘Roll optimisation’ seeks to minimise the costs of replacement. ETCs that use roll optimisation include Xtrackers Crude Oil Optimum Yield ETC and the Xtrackers DBLCI Commodity Optimum Yield Swap ETF, which invests across energy, precious metals, industrial metals and agricultural commodities. Alternatively, iShares offers ETFs that use Standard and Poor’s GSCIO Dynamic Roll indices, such as iShares S&P GSCI Dynamic Roll Commodity Swap ETF.
Another consideration is whether to hedge the currency. A DWS study found that for commodities, most long-term investors would not need to hedge, but for investments of less than three years, currency movements could impact returns. For exposure to oil stocks, iShares US Oil & Gas Exploration & Production ETF would suit risk-averse oil investors, as it tracks the mature oil producers rather than small-cap explorers, but there’s the also the riskier SPDR S&P Oil & Gas Exploration & Production ETF.
Where are they headed?
Brent Crude price predictions 2019: Goldman Sachs: $75 a barrel early in 2019 JPMorgan: $73 a barrel US Energy Information Administration: $72 a barrel.
Gold price predictions 2019: Goldman Sachs: $1,325 per ounce Bank of America Merrill Lynch: $1,350 per ounce ABN Amro: $1,400 per ounce.