After years of disappointment, the commodity markets are sizzling hot once again. The Bloomberg Commodities Index (BCOM), the most widely used benchmark for the commodities market tracked by 23 exchange-traded contracts on physical commodities, is outperforming the stock market, with a 29.4% gain in the year-to-date compared with a 12.4% return by the S&P 500 Index. The pivotal energy sector has been particularly impressive, managing to bounce back from a decade of underperformance.
The commodity markets tend to be highly cyclical, mostly bending to the tune of the economy. The price movement of most commodities has historically been both seasonal and cyclical. But after years of underperformance, the broad commodity market appears to be bouncing back again. However, at this point in time, commodity prices are less a demand problem and more a supply problem. For example, most copper mines in Chile--the world's largest producer of copper--shut their doors in 2020. Many other producers had to cut capacity, with many businesses drawing down their inventories to a bare minimum to minimize losses. Indeed, by last December, inventory levels by American companies dropped to their lowest levels since 1992.
Will the good times last?
Peering at the 10-year charts of leading commodities reveals a clear pattern of mean reversion where prices tend to oscillate backward and forward towards their mean or average. This fact alone lends some credence to the so-called commodity supercycle and offers the bulls some hope that the rally could have some legs.
A cross-section of Wall Street luminaries from Pimco to Point 72 has predicted a broad commodity rally thanks to the so-called reflation trade. Indeed, Wall Street is anticipating a new commodity bull market that will rival the oil price spikes of the 1970s or the China-driven boom of the 2000s. Market experts, including Goldman Sachs, believe the commodity boom could rival the last "supercycle" in the early 2000s that powered emerging BRIC economies (Brazil, Russia, India, and China).
Without further ado, here are the best performing energy commodities this year.
#1. Lithium Lithium has emerged as the best-performing commodity this year, with lithium carbonate prices up 93% in the year-to-date.
Earlier in the year, Chile's second-largest lithium producer, Albemarle Corp., warned that global supplies of lithium were on course for a major shortfall in a few years' time if prices continued to fail to reflect the costs of funding massive expansions amid the EV boom. Specifically, ALB highlighted the chasm between discount-hunting EV manufacturers and lithium producers who were unable to meet growing demand at persistently low prices.
Ganfeng Lithium, the world's largest lithium mining company with a market capitalization of $19 billion, also predicted that lithium prices will continue to rally as lithium production struggles to keep up with strong demand for EVs. The Chinese company has some decent street cred--after all, it counts leading EV automakers such as Tesla Inc. and BMW among its customers.
Since then, lithium carbonate prices have nearly tripled after sinking to multi-year lows of $29,800 per ton in July 2020. Lithium carbonate is a critical ingredient in the manufacture of Lithium-ion batteries for electric vehicles.
An increase in Australia's spodumene capacity after new projects came online in 2018, combined with fast growth in global EV sales and changes in Chinese policy, has also helped to boost demand and liquidity in the lithium carbonate market.
With the ESG drive in full swing and megabanks increasingly balking on coal investments, most experts predicted that the halcyon days when coal prices were rallying in triple-digits were over.
Coal finished as the second-worst performing commodity in the last decade and has also been the most volatile of any commodity. This has come as no surprise as coal power generation falls out of favor and production capacity continues to dwindle.
But in a highly unusual twist, coal has emerged as one of the best-performing commodities this year.
Coal prices have surged 63.4% to $108/mt so far this year, rising from pandemic lows last spring thanks to robust global energy demand as economies emerge from lockdown.
Despite increasing environmental pressures, coal remains the leading fuel for power generation, generally being more competitive than natural gas. Strong demand, particularly in Asia and Europe, as well as China, for the first time ever, becoming a net importer of coal, are likely to continue supporting higher prices in the months to come.
#3. Crude oil
Oil prices have rallied to their highest levels since two and a half years after OPEC+ recently agreed to extend its historic production cuts. On Thursday, WTI was trading at $71.80 per barrel on Friday while Brent crude was changing hands at $74.00, levels they last touched in 2018.
This means that WTI is up 47% YTD while Brent has rallied 44.2% over the timeframe
Beginning on May 1, OPEC cut production by 9.7 million barrels per day, with the cuts scheduled to start declining beginning July 1. OPEC+ now says July's production cut will be 9.6 million bpd after Mexico said it remains committed to the group's prior agreement. Consequently, oil inventories that had built up in the middle of last year due to oversupply amid weak demand due to the pandemic now appear to be on pace to fall below historical averages as early as next month. Meanwhile, U.S. supply remains subdued as companies have held back production to conserve cash. OPEC+ is optimistic that shale production won't disrupt the delicate balance it has worked to establish for at least two years.
#4. Natural gas Natural gas prices have soared to multi-year highs of 3.20/MMBtu, a level they last touched two years ago.
Solid domestic weather demand and expectations for strong exports this summer are proving to be strong tailwinds for natural gas prices.
Meanwhile, strong demand for Liquefied natural gas (LNG), which hovered near record levels above 11 Bcf most of the spring, has been driving demand.
The Tetco pipeline restrictions have also been restricting regional production early this fall, the natural gas market undersupplied by as many as 1.8 Bcf/d.
However, the rally in natural gas futures appears to be cooling off mainly due to rampant profit taking and falling cooling demand as scorching temperatures gradually fall.
Copper prices and those of many industrial metals remained muted for much of 2019 due to fears about an economic slowdown and rising geopolitical uncertainties.
However, copper has rebounded strongly thanks to robust EV and industrial demand with prices up 18.7% YTD.
However, copper prices have lately dropped from a record high in May following efforts by China to stem the rally in commodities.
That said, supply constraints and growing demand suggest that the industrial metal's run-up is not done yet.
Matthew Fine, manager of the Third Avenue Value Strategy portfolios, says that if the clean energy goals that have been announced come to fruition, copper will see strong demand over the coming years.
Further, shrinking supply and a relatively tight physical market coupled with falling copper inventories are all positive catalysts for the copper market.
By Alex Kimani for Oilprice.com
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