Much like consumer inflation, the run-up in commodity prices is proving to be much more than a transitory blip driven by the pandemic.
Energy and metals prices have been ripping higher pretty steadily for nearly two years now, as production on a global scale has struggled to keep up with the demands of a growing economy.
While the easing of tensions between Russia and Ukraine saw crude oil and gold prices retreat on Tuesday, a severe undersupply still looms over the entire global commodity complex.
“The world just seems to operate on the assumption that what we need is always available,” said Les Stelmach, senior vice-president and portfolio manager at Franklin Templeton Canada. “That may not be true – certainly not at the price level we’ve long been accustomed to.”
As stockpiles of several economically critical commodities dwindle, some analysts see years of elevated prices ahead – what is known as a “supercycle.” Canadian investors recall the last such episode fondly.
The commodity bull market of the 2000s, fuelled by China’s rise to superpower status, largely sustained the Canadian stock market for a decade, as the S&P/TSX Composite Index beat the S&P 500 in eight of 10 years between 2000 and 2009.
The current run on commodities, on the other hand, is mainly a supply side phenomenon.
Years of low investment in resource production set the stage for today’s commodity market imbalances. The pandemic then added a powerful confluence of forces, including production constraints, a congested global supply chain and booming demand as economies recover.
Global aluminum inventories, for example, could be exhausted by next year, a recent Goldman Sachs note said. Benchmark aluminum prices are trading just short of the record high. Copper stockpiles currently sit at less than one week of global consumption.
“I’ve been doing this 30 years and I’ve never seen markets like this,” Jeff Currie, Goldman’s widely followed head of commodities research, said in a Bloomberg TV interview last week. “This is a molecule crisis. We’re out of everything, I don’t care if it’s oil, gas, coal, copper, aluminum – you name it, we’re out of it.”
Prior to the pandemic, oil at US$100 a barrel seemed a thing of the past. Fears of an oversupply, in fact, dictated oil market movements for most of the prior decade.
On Monday, a barrel of West Texas Intermediate settled at US$95.46, before dipping more than US$3 on Tuesday.
“Welcome to the supercycle,” Michael Tran, an energy market strategist for RBC Dominion Securities, wrote in a report. With little to restrain the energy market in the months ahead, Mr. Tran said he sees crude benchmarks hitting US$115 a barrel or higher by this summer.
“Historically, markets led higher by tightening product and crude inventories are difficult to solve absent a demand destruction event or a supply surge, neither of which appears to be on the horizon,” Mr. Tran wrote.
While oil producers are spinning off considerable amounts of cash at current prices, the industry is broadly reluctant to start drilling aggressively, for a number of reasons.
The excesses of the previous bull market in commodities prompted shareholders to demand something different from oil companies – restraint and profitability, Mr. Stelmach said.
“Historically there would be a lot of pressure to accelerate capital spending, to go out and drill more wells. But that’s really not the case now,” he said.
A similar directive guides the mining industry, which was also chastened by investors for its own era of exuberance.
“Mining companies remain under intense pressure from shareholders to remain disciplined in the current environment and not repeat the mistakes of the last cycle by chasing excessive growth,” Bank of Nova Scotia analyst Orest Wowkodaw said in a report last month.
What appears to be a persistent gap between supply and demand suggests expensive commodities in the months ahead.
“Something has to give,” Mr. Stelmach said. “And it has to be price.”
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