Commodities

The fallout from the Global Financial Crisis (GFC) in 2008 and the years immediately after saw a short term boom bust cycle in the commodities sector.

The subsequent bust in ~2011 led to a period of over 10+ years of depressed commodities prices and broad based underinvestment in new supply.

Then in 2020 the 2 year covid hand brake and the freezing up of supply chains globally made the problem even worse.

Covid made the world realise that relying on other countries for supply of critical commodities is a risk, encouraging many governments to try and discover and develop local supply.

This “security of local supply” theme was turbo-charged after the Ukraine war took all sorts of commodity supply off the market, especially food (Ukraine wheat) and energy (Russian gas).

Supply side problems coupled with increasing demand from the push towards decarbonisation has brought about the idea of a “commodities supercycle” - where demand outweighs supply significantly and commodity prices stay higher for longer.

The commodities supercycle has now entered the lexicon of investors - with big pools of capital now turning to mines, organisations investing upstream to secure battery metals and governments providing funding to secure critical mineral supply.

The history of commodities supercycles is as follows:

1. US industrialisation: Late 1890s through to a peak in 1917 - the US was rapidly industrialising and the supercycle peak coincided with the entry of the US into World War 1 and continued until the early 1930s.
2. World War and the rebuild: The next supercycle began in the lead up to the Second World War. The war itself and rebuilding in the aftermath required lots of materials - it peaked in 1951, and this demand continued through to the early 60s
3. Cold war and nationalisation: The early 1970s marked the start of the third cycle as commodity supply was disrupted as the Cold War saw countries nationalise industries and foreign investors pulled out. In the mid 1980s producers managed to shore up supply and the cycle faded.
4. China Industrialisation: The most recent supercycle started in 2000 when China joined the World Trade Organisation (WTO) and started to modernise. The raw materials China needed to do this sparked a long bull run for commodities. The 2008 GFC put a spanner in the works but Chinese stimulus made the cycle continue through to 2014 when oil cratered on oversupply.

Our view is that we are now entering the next iteration of a commodities supercycle for the following reason:

Clean energy revolution & localisation of supply chains - We think the fundamentals for the next supercycle have been set with the world looking to transform the way energy is produced and consumed (through cleaner, renewable energy technologies) AND the push to localise the supply chains for these critical raw materials (Fallout from the Ukraine/Russia conflict).

We think that 2023 will be a year where the tailwinds for the commodities supercycle get stronger and capital starts to flow into the commodities where the biggest supply/demand imbalances are being forecast.

What the analysts say

Goldman Sachs believes that commodities will be the best-performing asset class once again in 2023, handing investors returns of more than 40% (source).

The investment bank has been strong on commodities since calling the start of a commodities supercycle in 2020 and think that 2023 will be another strong year for the sector.

On the supply side Goldman Sachs believes that with the cost of capital high there will be a continued undersupply of commodities in 2023 - as new mines and new production remain underinvested.

On the demand side, the re-opening of China will continue to push commodity demand up as the country looks to re-build from tumultuous years of lock down.

Read the full Goldman Sachs 2023 commodity outlook.

JP Morgan strategist Marko Kolanovic is also calling for the start of the worlds fifth “commodity supercycle” of the last 100 years and thinks that pools of capital flowing into the commodities sector will lead to prices that are a lot higher than most expect.

What about the bear case?

The bear case for commodities is a looming recession.

If a recession materialises and consumption craters, then this would be bad for commodities.

The irony is that the inflationary environment has been caused, in part, due to increases in prices for commodities.

For example, if the price of lithium doubles in the next 12 months, it could make electric vehicles unaffordable for consumers - thus destroying demand.

And if the demand side of the equation changes, due to the inflationary pressures, then commodity prices will fall.