Outlook: Rally in commodities prices continues

Outlook: Rally in commodities prices continues

June 12, 2016

Commodities prices have showed a sustained, albeit gradual, recovery in the second quarter due to improved market sentiment and a weakening U.S. dollar. Prices for most commodities rebounded in February and March from the multi-year lows registered in mid-January. The scenario suggested by our latest Consensus Forecast is that the nascent recovery is here to stay, although the pace of the recovery is expected to be gradual and uneven across different commodities. 

Looking at the individual commodity groups, prices for energy commodities have continued to rise, fueled mainly by the rally in prices for crude oil and petroleum products. Although base metals are still trading with a softer tone, prices have experienced upward pressures from higher demand. Precious metals prices, led mainly by gold, have seen volatility in recent weeks, but the overall trend remains positive. Finally, prices for most agricultural raw materials continued to increase in recent days, influenced by disruptions in supply due to harsh weather conditions in some parts of the world.

Against a backdrop of a more favorable environment for global demand, forecasters polled this month by FocusEconomics expect that prices for most commodities will continue to rise throughout the year. Going forward, analysts see prices for most raw materials experiencing a more solid recovery next year. Commodities prices are expected to increase 6.2% annually in Q4 2016, which is an upward revision from the 5.6% rise that analysts predicted last month.

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ENERGY | Price rally sustained by disruptions

Prices for energy commodities, led mainly by crude oil, continued to rise at the beginning of June. Crude oil prices for Brent and WTI have climbed more than 80% from the multi-year lows recorded on 20 January and, in recent weeks, they moved closer to USD 50.0 per barrel. On 10 June, Brent Crude Oil traded at USD 49.6 per barrel, marking the fifth consecutive weekly gain. This is the longest winning streak in over four years. The price for West Texas Intermediate—the U.S. benchmark for crude oil—was USD 49.1 per barrel on the same date and, like Brent, it was on course for another weekly gain, in this case, the fourth.

Oil prices have been bolstered by supply disruptions across the world. Among the disruptions are a reduction in Iraqi output amidst power outages, sabotages of pipelines in Colombia, wildfires in Canada, a strike in Argentina that has reduced YPF’s output by 40%, and a continual fall in Nigerian supplies as the Niger Delta Avengers continue their attacks. According to the U.S. Energy Information Agency (EIA), unplanned supply outages averaged more than 3.6 million barrels per day (mbpd) in May 2016, which is the highest monthly level on record since the Agency started tracking global disruptions in January 2011. Moreover, the Agency also reported that global output had continued falling in May, particularly in the U.S. where crude oil production averaged 8.7 mbpd in May. The result was down more than 0.2 mbpd compared to the level observed in the previous month and was 1 mbpd lower than in the same month last year.

The rally in crude oil prices continued during OPEC’s 169th biannual meeting in Vienna on 2 June, which ended, as expected, without an agreement regarding production targets. The outcome had little impact on prices and the biggest uncertainty in the markets has to do with OPEC production. The decision OPEC members take in their next meeting, scheduled for November, will be crucial to provide more support to prices.

The rally in oil prices, and, consequently, in energy prices, is expected to persist in the coming weeks as there are increasing signs that output is falling and that demand is gradually strengthening. That said, although some analysts say that that the long-awaited rebalancing in crude oil markets is under way, they are keeping their eyes open for a resurgence in oil production from high-cost producers, in particular from U.S. shale oilfields, and they are also concerned about the fact that global inventories are still high. Energy prices in general are expected to rise 15.5% year-on-year in Q4 2016, with risks tilted to the upside as analysts hiked the forecast from the 12.4% increase expected last month.

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BASE METALS | Sentiment drives price developments

Prices for most base metals have risen mildly since their plunge in January. In recent weeks, prices were still low, particularly for aluminum, copper, iron ore, nickel and lead. Conversely, prices for steel, tin and zinc experienced a substantial increase. Base metals prices were dragged down by weaker sentiment regarding oversupply and a slowdown of the Chinese economy. That said, the gradual increase in base metal prices in the past weeks is mainly the result of recent signs that China’s economy has stabilized and that global stocks of most metals are decreasing. Moreover, analysts believe that the rally seen in steel and zinc prices went too far too fast, but that a degree of bullishness for these commodities is justified due to expectations of large supply deficits.

That said, prices for iron ore have been highly volatile and plummeted in recent days, shedding all the gains made in the previous two months. This behavior in iron ore prices reflected speculative buying in China and a subsequent crackdown by the authorities. Iron ore prices reached a peak of USD 71.5 per metric ton on 22 April before falling to USD 53.0 per metric ton on 10 June. Prices for steel have been on a roller-coaster ride in both in the U.S. and European markets. The global steel industry is now seeing China disconnect from the wider global scenario, as aggressive anti-dumping measures prompt a substantial divergence among different markets worldwide. The U.S., for instance, has imposed duties of 522% on China in response to strong steel imports and U.S. prices have rallied in the past month.

Following the deep lows registered at the end of 2015 and beginning of 2016, forecasters expect base metal prices to rise, although timidly, toward the end of this year as further output cuts and an increase in demand will support prices. Analysts expect base metal prices to increase by 3.8% year-on-year in Q4 2016. This month’s forecast was revised down from the 4.2% rise projected last month.

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PRECIOUS METALS | Shift in Fed rate expectations triggers sharp increase

The developments in prices for precious metals are largely reflecting decisions or expectations regarding monetary policy making in the world’s largest central banks. Results of late, particularly in gold prices, reflect the focus on expectations of a U.S. Fed interest rate hike in either June or July, following comments from Fed officials, including Chair Janet Yellen. That perception strengthened the dollar, weakened prices for many raw materials and shook emerging markets. However, the disappointing result of the latest U.S. jobs report, which showed the weakest jobs creation since 2010, has seen the markets ruling out a June rate increase, and, although Janet Yellen has since hinted that a July hike is still on the cards, the probability of such move has been reduced.

The shift in Fed rate expectations and the effects this will have on the U.S. dollar triggered an increase in the price for gold and other precious metals. Moreover, after the strong rally seen in Q1, precious metals prices are expected to continue increasing. The outlook for precious metals remains positive and experts project prices to rise 10.5% Q4 2016 over the same period last year. This month’s projection was revised up from the 9.0% increase that analysts had expected last month.

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AGRICULTURAL | As El Niño ends, La Niña takes shape

The drop in prices in most agricultural commodities at the end of 2015 carried over into the first quarter of this year, although an increase has been observed in the second quarter of the year. The most notable increases were seen in prices for cocoa, coffee, soybeans and sugar. Despite more favorable supply prospects, prices for most agricultural raw materials were very much influenced by production uncertainties. Severe damage to crops in Argentina due to excessive rainfall has been the main contributor to a sharp rally in soybean prices. An increase in prices for coffee and sugar was largely the result of dryer-than-expected weather in Brazil, which dampened prospects for the second harvest.

Lingering effects related to El Niño continued to negatively affect output in June, but as the weather phenomenon is effectively over it will not be a factor for the rest of this year. The return to neutral conditions should bring relief to drought-stricken regions of East Africa, India, South America and Southeast Asia. However, analysts are seeing an increase in the probability of a transition to a La Niña weather phenomenon—unusually cold temperatures in the equatorial Pacific Ocean—in September. Whether the phenomenon will be moderate or strong remains to be seen. Should the transition be strong, the likelihood of drier conditions will increase between October 2016 and June 2017 in the southern horn of Africa, Central Asia, southeastern China, South America, Mexico and the Southern United States. Meanwhile, Australia could see above-average rainfall. Risks associated to the arrival of La Niña in the second half of the year are likely to provide support to prices for agricultural commodities this year. Analysts expect that agricultural prices will increase 7.2% year-on-year in Q4 2016, which was revised up from the 5.1% increase expected last month.

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