This article is part of Morningstar's Guide to Alternative Investing; providing everything you need to know about property, commodities, infrastructure and other diversifying assets.
The commodities rally looks set to continue into 2017, according to analysts and investment managers. The Organization of Petroleum Exporting Countries’ (OPEC) deal to cut oil production by 1.2 million barrels per day in its December meeting paved the way for a demand and supply rebalancing in the oil market which should result in moderate gains in the oil price.
This is the beginning of the oil price stabilising, Rowena Geraghty, EMEA sovereign analyst for Standish Mellon Asset Management, a fixed income investment boutique of BNY Mellon Investment, told Morningstar in London this week. She added that the OPEC deal would play a key role in US shale oil producers contribution to the market.
Tom Holl, portfolio manager for the Bronze Rated BlackRock Commodities Income Trust (BRCI) agreed, saying that the OPEC move would effectively bring forward the rebalancing of oil market.
“Over the medium-term, US shale alone will not be enough to meet growing global demand, and oil prices will need to rise to a level which incentivises investment in offshore, deep-water production,” said Holl.
While Holl believed that oil prices moving upwards would lead to improving returns for the energy sector, Geraghty warned that a rising oil price would hit real household incomes – as low fuel prices have effectively been a tax cut for consumers.
China Will Not Have a Hard Landing
Looking more broadly at the outlook for the commodities sector, Geraghty said that she was bullish thanks to the stabilisation of Chinese economy and a potential uplift of infrastructure spending in the US.
“Our analysts are confident to China that they have a right mix of macro and micro, fiscal and monetary policies, so a slowdown can be managed in an orderly fashion, rather than a hard landing,” said Geraghty. “Copper and iron have done extremely well up until now, linked to our view on China.”
Chris Beauchamp, chief market analyst with IG Group agreed, saying that while he did not expect China’s infrastructure spending to get back to the level it was, he was no longer worrying about a market crash.
“Maybe we will continue in this period of weaker commodities prices, but investors can use this opportunity to buy a position to hold over the longer term when prices will be better than they are now,” said Beauchamp.
Geraghty added that despite there being little information yet on President-elect Donald Trump’s infrastructure programme in the US, investors have already seen a positive impact on related commodities stocks.
A Mixed View on the Gold Price
Oil is not the only commodity up since the start of the year – the gold price started rising in January, and gained 20% to July, as concerns about the impact of Brexit saw investors rush to the perceived safe haven. However the gold price has subsequently fallen back to its February level around $1,172 per ounce. In part this is because the outlook for the US economy is improved, as seen by the market pricing in a 96% probability of the Federal Reserve raising rates this month.
Commodity prices tend not to do well as the dollar strengthens. But Suzanne Hutchins, portfolio manager of the global real return team at Newton Investment Management told Morningstar that the recent strength of the US dollar is not sustainable.
“The US dollar is currently at about 14-year high, which I think it is a risk to the downside of the dollar. There are expectations for a couple of rate rises next year, so if that comes through the dollar would go down. And it would potentially be good for the gold price,” said Hutchins.
However, IG’s Beauchamp holds a different view, he expects the gold price to drop below $1,000 per ounce by the end of the year.
“Even if inflation starts to pick up – a classic environment that favours gold – it’s likely the improving US economy will take the lead on that and you will see gold heading lower,” said Beauchamp.
“We will have a bounce in the short term but the gold price will remain weaker in the long term.”
Hutchins admitted they have taken profits from the gold rally at the first half of the year as some of his investments were up around 200%. However, he reminded investors that gold remains an unstable commodity that is affected by the US currency movement.
“You need to be careful that you are not putting all your eggs in one basket,” said Hutchins.
Data from Morningstar Direct showed that commodities precious metals exchange-traded funds recorded €12 billion inflows year to date.
