Question Mark: Sustainability of the Commodities Bull Market
You would have to be living in a cave not to notice the bull market in commodities. As with any bull market, the logical question is whether it is sustainable or not and, if it is sustainable, what is its lifespan? Some of the top economists in North America are comparing the latest market stampede into commodities with people lost in a desert seeing a mirage and are warning of a rude awakening in the coming months. So, which is it: a sustainable secular bull market or a mirage of precious water in the desert for thirsty men?
Well, raw numbers, without a doubt, shout “bull,” loud and clear. Investor gains are keeping them returning for more. Spot gold, for example, touched, albeit briefly, an all-time high of $1,420.90 per ounce last week before dropping back under its new resistance level of $1,400. At the same time, copper is attacking its record high as well, while silver has hit a 30-year high before retreating about three percent on the same day. As for oil, it is hovering around its two-year high, spot trading within a narrow range between $86.00 and $88.00 per barrel.
At face value, commodities, it seems, are soaring, and commodity-based economies, like those of Australia and Canada, are prospering. Sure, the world would be a better place if there were not a “but” coming up every time something good is happening, but (pun intended), there is one. What those fearful of the commodity bull are saying is not that commodity fundamentals are inherently stronger than those of other asset classes, but that their resurgence has more to do with the U.S. monetary policy than with factors such as supply and demand imbalances.
QE2 is what has everyone’s knickers in a knot as of late. The U.S. Federal Reserve is widely expected to unleash another round of quantitative easing (read, “buy more treasuries and print more money into the financial systems”), the purpose of which is to drive the greenback into the ground to make the U.S. exports more attractive in the international markets. In addition to the fact that, globally, commodities are priced in the U.S. dollar, there is also the perception that the financial market risk has eased somewhat. As a result, some economists are attributing these two factors as the main drivers of higher commodity prices at the moment, but are doubtful this will provide enough fuel for the current commodity rallies to continue for much longer.
This is fine reasoning, I agree. But it is also such a small part of the bigger picture that does not fundamentally skew the short- and medium-term prospects for commodities. What is omitted from this reasoning is the potential impact that excess money supply may end up creating—higher price levels or inflation. Additionally, the global economy is not recovering either as quickly as anticipated or as radically as many had hoped it would. The global economic output for 2011 is expected to be a very modest four percent, while in North America an utmost unimpressive 2.5%. As for Europe, let’s just say if they pull off 1.5%, they’ll be lucky.
The way I see it, the stampede into commodities is investors’ response to all this volatility and economic uncertainty. Investors no longer trust policy decisions. They cannot rely on the G-20 to find solutions that will benefit the greater good of the planet, not just their respective regions. They fear the decoupling of Wall Street from the rest of the economy, as well as newly coined terms like “currency wars,” or “haves and have not economies.” Nothing seems solid and reliable anymore. So, when they buy gold, they see something tangible in their hands, the value of which is not likely to evaporate like the value of paper money.
Those are the layers that are impacting commodity prices as of late and I don’t see them go away anytime soon. In my view, the mirage here is not soaring commodity prices; rather, the mirage is the global economic recovery. And as long as there is a need to seek safety in these tumultuous times, commodity prices will keep soaring.