Q1 Commodity Outlook: Markets braced for headwinds

Against the backdrop of an uncertain global economic outlook, with Europe looking very bad, Asia probably worse than consensus and the US improving somewhat, commodity traders will be looking towards 2012 with some confusion. The first quarter will most likely produce a great amount of uncertainty as the market will be looking for clarity on many of the unanswered questions left from 2011, especially the all-important unknown of whether we will face another global recession in 2012.

With our expectations for further dollar appreciation during the early stages of 2012, the upside for the major commodity indices seems to be limited during the first quarter with investors likely to be very selective. However we believe that the multi-year uptrend, also called the commodity super-cycle, has not yet run its course and long-term investors should view the next few months as an opportunity to accumulate, a view that will be further supported should the central banks of emerging markets (EM) and developed markets (DM) engage in simultaneous aggressive monetary easing.

Precious metals like gold and to a certain extent silver will continue to benefit from continued risk aversion.  Supporting factors also include the negative yield environment, currently seen among more than half of the G20 nations, combined with strong physical demand from central banks and emerging market investors. We see prices stabilising after a late 2011 correction with fresh investment flows driving the price towards 1,800 during Q1 and even higher later in the year.



Base metals will, despite a deteriorating outlook for new supply, continue to struggle through the early parts of 2012 on growing concern of a recession in developed markets, combined with emerging markets slowing down. The long-term prospect however remains positive as lower prices should meet restocking demand, especially from countries like China. However with industrial metals being viewed as an economic indicator for growth any traction during the early parts of 2012 remains limited as focus will be firmly on the demand side.

The agricultural sector suffered a major setback during 2011 on a combination of normalised weather and farmers across the globe reacting to the high prices during 2010/11 by planting record amounts of new crops. The stronger dollar hurt prices and US exports as buyers turned to other suppliers, especially in the Former Soviet Union and South America. The accumulative speculative long position held by hedge funds across the sector has fallen to the lowest level in two and half years and on that basis (combined with the potential challenges of weather related supply issues) we see good potential for higher prices, especially among commodities with constrained supply, such as corn and soybeans. Livestock should also hold up well due to strong fundamentals combined with its defensive character.

The energy sector, excluding US natural gas which is stuck in a bear market amid ample US supply from shale gas, looks set to remain range-bound during the early parts of 2012. Such is the uncertainty about the direction that fat tails on the options curve have emerged with investors buying out of money protection in both directions. The renewed slowdown in 2011 largely occurred due to the spike in energy prices, which saw the average price of Brent crude rising by more than one third from 2010.

Increased energy demand from EM looks set to continue to outweigh the slowdown in DM and this combined with many oil producing nations now requiring higher prices to pay for increased social spending, especially after the Arab Spring, should keep prices supported despite slowing economies. Brent crude has the potential of making a low around 95 dollars and should average 100 dollars during Q1 before rising later in the year.




Download the entire Saxo Bank Q1 Quarterly Outlook.