Lyxor’s latest Cross Asset Research Investment Strategy points to a rapid but uneven economic recovery in Q2 as vaccine rollouts continue, and the US leads the way with aggressive fiscal policy support. Lyxor Cross-Asset Strategist Jean Baptiste Berthon explains the impact the recovery will have on commodities, focusing on Oil, Copper and Gold.
Why do you expect a cyclical commodity boom?
Major cyclical commodities will likely face a supply / demand deficit. Supply has been tightening in recent years, in response to the US/China trade war, and more recently the pandemic. As the pandemic eases, demand is expected to surge, while secular trends that support commodities, in particular a housing boom, decarbonization and electric vehicles, infrastructure spending will also put upward pressure on demand.
There are risks to this bullish view. Sub-par world GDP potential growth, improved energy efficiency and a move away from fossil fuels, and a faster transition to a more tertiary economy with declining demand for capital goods, might limit demand. The final size and shape of the US “Build Back Better” plan would also matter.
While a multi-year new “Commodity Supercycle” remains to be seen, a medium-term “Commodity Boom” does seem likely.
How will Oil supply and demand influence how prices evolve over the coming months?
OPEC+ has planned to add 2.1 mbd of crude supply until the end of July and Saudi Arabia will gradually lift its 1 mbd extra cut. OPEC+ is likely to adapt its output additions to pace of the recovery. US producers are not expected to materially change their output, still focusing on shale gas profitability after years of losses.
The surge in demand by the summer would easily absorb higher supply, with evidence of a normalization in transport and industry at a time of high seasonal demand. Demand for inflation hedges and hopes from the ambitious U.S. reflation plan would also support prices.
Talks with Iran are making progress, with higher odds for a deal. Easing sanctions in exchange for compliance over Iran nuclear program could lift Iran’s crude export by up to 1.7 mbd, depending on the timing and magnitude of sanctions relief. Pressures from regional powers and the Iranian Presidential election in June, which sees a growing rift between the moderates and the conservatives, are adding uncertainty.
We expect oil prices to factor improving supply/demand dynamics over Q2, i.e. before they materialize. Oil prices could moderate in the second part of the year as investors worry about OPEC+ ramping its output. With excess oil inventories cleaned up by year-end, we see oil markets returning to more normal trading conditions. A balanced market and a business cycle gradually shifting to a mid-cycle stage would keep prices on a firm footing in 2022, but without exuberance, between $70 and $75/b for Brent.
What does the recovery portend for the global supply of copper?
Copper is enjoying a strong alignment of planets, driven by global growth, an ambitious U.S. reflation, the rebound in construction and in auto sales, higher demand for inflation hedges and strong market liquidity.
Structural trends in electronics, electric vehicles, and decarbonization will provide lasting tailwinds. In particular, subsequent reflation packages in developed markets will likely be focusing on green investment, which will require ever more copper.
Meanwhile copper supply will resume, but slowly, with most new projects set for 2022 and beyond. With world trade saturation and supply chain stress on the one hand, and already tight global copper inventories, prices could breach previous record highs of $10 000/t.
With the economy set for a rebound, what are the prospects for Gold?
Gold fundamentals have become mixed. On the positive side, the share of global debt still trading in negative territory remains elevated, making gold an appealing alternative to cash. Trends in inflation are marginally positive (though we don’t expect it to overshoot), leading investors to keep gold as a hedge. The physical market also improved as jewellery and industrial demand normalize, while central banks might also be done trashing their gold reserves.
However, the pace of vaccinations and the ongoing economic recovery is eroding investors’ demand for safe haven, cutting a pivotal driver for gold.
We see gold prices trading in a tighter range opening both long and short tactical opportunities. In the short-term, healthier technicals are opening buying opportunities in our view.