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Page added on December 1, 2014
Oil, gold crash spell end of commodity ‘supercycle’
We are likely witnessing the painful, undignified death of the commodity investment “supercycle.”
Oil prices cracked below $70 per barrel after OPEC declined to cut production. Gold sank toward $1150 an ounce after a Swiss vote to compel more central bank gold buying failed and gold holdings in the SPDR Gold ETF (GLD) shrank to a six-year low. Copper sagged beneath $3 per ounce on tepid China manufacturing activity.
As I discuss with Yahoo Finance Editor-in-Chief Aaron Task in the attached video, this collectively represents a global phenomenon of not enough dollars chasing too much “stuff” – an inversion of the classic (and flawed) monetarist definition of inflation.
This deflationary wave has swamped a huge commodity production and investment infrastructure that off more than a decade ago with the rise of China as an industrial power and voracious refiner of raw materials.
A concurrent Wall Street boom in “alternative investment” strategies meant to offer “all-weather” returns independent of stock and bond performance provided new investment demand for commodities from metals and oil to foodstuffs. The financial crisis panic buying in gold was an added kicker to commodity lust.
This process is now working in reverse. A decade of increasing productive capacity has fattened supplies of commodities just as the world economy grows less commodity-intensive and investment demand wanes with traditional equity and bond markets performing well.
The idea that commodities were even a proper investment asset class for long-term investors was never fully demonstrated. Commodity prices tend to be mean reverting through successive cycles rather than instruments that produce cash income or build economic value.
Yet many in the financial industry promoted the idea of a “supercycle” fed by global industrialization and “peak oil” supply constraints. For sure, commodities look quite oversold in the short term and sentiment has turned severely against them, supporting the chances for a trading bounce or pause in the declines.
Yet even if the lows are in for oil or gold, the big picture is now looking decidedly less “super” for long-term commodity bulls. In one representative example of flagging investor interest in commodities, assets in the bellwether Pimco Commodity Real Return Strategy fund (PCRIX) have fallen below $13 billion – down by more than a third in two years.
The deflationary effects of collapsing commodities have a few important implications for investors and policy makers.
-Easy-money central bank policies can stay that way for longer – or get even easier. Some Federal Reserve policy voices have already been arguing that the Fed should focus more on how far short its main core inflation gauge has fallen of its 2% target. The drop in headline inflation due to sinking energy costs will possibly exacerbate this situation. This will give Fed Chair Janet Yellen clearance to forestall any interest-rate boost, while emboldening stimulus efforts by central bankers in Japan and Europe.
The idea that a commodity crash could fuel more easy money, currency devaluation efforts and financial-market speculation has spread.
Michael Block, strategist at Rhino Trading, spells out the trader logic in his morning comment: “Weaker commodity prices in dollars also meant weaker yen and that was enough to get the Nikkei up another [0.75%] overnight.”
-Investors will scramble to rethink the energy sector. Oil-exploration stocks were among the most popular among professional stock pickers in the first half of 2014. Value investors could argue the group was cheap, with price-to-earnings multiples below the broad market, and growth seekers loved the surging production estimates from North American.
Now the violent drop in crude-oil prices has undercut the profitability of many North American projects, analysts are slashing capital-spending forecasts for next year and high-yield bond investors are getting nervous about the outsized debt loads shouldered by the sector.
In this setup, investors should eye the most volatile energy stocks for clues about a selling climax and potential rebound, not the commodity prices themselves.
The PowerShares S&P SmallCap Energy ETF (PSCE) has cratered by nearly 40% in the past three months. This group is likely under the sway of indiscriminate risk-reduction and year-end tax-loss selling.
But the stocks could well stabilize or rebound ahead of the oil price itself. At some point, this sector will have priced in much of the bad news, perhaps including some defaults, and the bounce will be ferocious.
-Could we see another “deflationary boom?” A long stretch of very cheap oil was an important and underappreciated element of the ‘90s consumer, technology and stock market boom.
It’s far too early to say that oil will remain this low or stay cheap for years, of course. And the stock market has already begun bidding up U.S. consumer-oriented stocks on this “windfall trade,” in a sign that the market is sniffing out a fresh new “story” to animate the next phase of this bull market.
Of course, the other thing we saw in the ‘90s was a succession of financial accidents resulting from overheated markets and volatile flows of hot capital. Mexico, Russia and Southeast Asia had currency and credit crises that fractured U.S. stock and bond markets in brief but violent bursts.
With the Russian ruble in freefall with oil and many crowded trades being challenged by quick-moving market storms, investors should stay watchful of collateral damage from windfalls.
13 Comments on "Oil, gold crash spell end of commodity ‘supercycle’"
Davy on Mon, 1st Dec 2014 6:37 pm
Why is it so hard for these numbnuts to admit the global economy is sick, unhealthy, on borrowed time. Corn porn amazes me because it is a religion. It is no different than the loons with ISIL many of whom are energized with faith. Even if a battle is being lost they will attribute it to Allah with some future beneficial meaning including death in paradise. Corn porns are going to get their clock cleaned from false optimism this is likely but hey, “gather the rosebuds while the may.”
kenberthiaume on Mon, 1st Dec 2014 6:50 pm
The global economy isn’t that sick. Oil demand isn’t down, the supply is up. Doomerism is a religion too. Peak Oil causes high oil prices. Or low. Take your pick.
Davy on Mon, 1st Dec 2014 7:09 pm
Ken, fair enough, but I would say doomerism is more reality based than the other religion I call corn porn. Reality is a pretty harsh handmaiden. Fantasy is easier to feel that warm fuzzy corn porn feeling.
Makati1 on Mon, 1st Dec 2014 7:19 pm
Anyone still playing in the Market Casino deserves what is coming…
i1 on Mon, 1st Dec 2014 7:44 pm
Let’s review, exponentially rising global population + depleting resources + war + yahoo magic = lower commodity prices. Sure dude.
Apneaman on Mon, 1st Dec 2014 9:51 pm
Doomerism may be a religion for some if they read an article or two and instantly believe it because it “feels” right. My Doomerism is a by product of my life long love of learning and my conclusion is based on decades of spending an ever increasing amount of my free time learning about thermodynamics, biology, physics, chemistry, religion, evolution, geology, psychology, sociology, history and my half century of life/work experiences and observations. In the last 8 years I have spent a great deal of time studying how societies react under pressure of all sorts. Any person of average intelligence with a library card and a internet connection can do likewise if they are willing to put the hours in. One can even watch online an entire semesters worth of lectures from some of the top universities and colleges, with first rate professors, and all for free. Many also provide course material.
Religion is a matter of faith. The definition of faith is belief without proof.
I found this course taught by Stanford Professor Robert Sapolsky to be particularly fascinating.
Introduction to Human Behavioral Biology
https://www.youtube.com/watch?v=NNnIGh9g6fA
Norm on Tue, 2nd Dec 2014 4:12 am
The gloom & doom would go away permanently, if we would start making oil & gasoline using nuclear reactors. Probably a Thorium fuel cycle. You have to generate more energy than what is in the gasoline. It would be a big deal to do that.
It would be expensive gas… probably $15 – $20/gallon. You could have a stable equilibrium society at that price… lot of electric cars and lot of people on the bus. The rich still in their 4-door German sedans burning the $20/gallon gas.
But since there is no plan to create gasoline from scratch, then gloom & doom is the likely result.
Makati1 on Tue, 2nd Dec 2014 5:05 am
Gasoline from scratch? You mean to make a given quantity of energy using more energy than is produced? Doesn’t EROEI come in there somewhere? Isn’t that what we are doing with biofuels? Anyone have a reply?
Makati1 on Tue, 2nd Dec 2014 5:07 am
BTW: Norm, I think you price per gallon would be much closer to $1,000 per gallon, in which case, old fashioned oil wells would still be profitable.
Davy on Tue, 2nd Dec 2014 5:50 am
Damn, Apnea, I felt like I was writing your words. That is essentially what I did as you did. I am also around your age. I think when you get to midlife and your hormones slow down, your fun drive lessens, and you become the leader of your tribe and family you engage in allot more risk management. I also believe once you hit a midlife you have years of experience that combine with the years of learning to give one a unique perspective that is something younger people just are not privileged to. You also get closer to the D-day of your mortality.
I joke around and play fun because life is short and one needs balance in life. All doom is dangerous and should be balanced with hobbies and laughter. In fact if you approach doom properly you magnify your enjoyment and passion for life. This happens because you understand how fragile our lives are. This feeling is more than an existential understanding that all of us have. You know a car wreck can happen at any time. This is a macro existential feeling where you understand that everyone could be cast into chaos relatively quickly. I am a doomer but if something happened to unequivocally point to a cornucopian future of course I would embrace it.
Doom is something that is a lifestyle. You prep and organize. Doom is something you try to preach because it is natural for humans to warn their family and tribe of danger. Doom is not a religion for me because I have my religion and spirituality. IMA most respectable religions and spiritualties I have read about are doom based with a cornucopian transcendence. IOW life is a dance and you cannot know happiness without some sadness.
If I redundantly speak about doom here on PO because the doomday appears to be near and each and every occurrence needs to be looked at from a doom point of view. This is true of the cornucopian views. I am happy to know the eastern shale plays may be a positive for our energy situation for example.
Notice I am not mentioning corn porn. Corn porn is positive propaganda to promote optimism that supports denial. This optimism is also part of the MSM, TPTB, and 1%er agenda. This agenda is concerned with maintenance of property and wealth. It is not concerned with maintenance of the public good. It only touches on the public good when it benefits that agenda.
My final word on doom is the systematic and historic side. We see patterns in life, science, and history. It is apparent ecosystems cycle and man is an ecosystem within ever greater ecosystems. These ecosystems are finite and governed by time. Doom acknowledges there must be contraction along with growth. We have been in an unnatural growth phase for the last couple of centuries. All indications point to a shift. The big question is time. This process is operating on a different time dimension then humans do hence the failure of forecast and predictions corns and dooms alike.
agramante on Tue, 2nd Dec 2014 10:51 am
Supply isn’t up by much, and if you’re talking about crude (not condensates, bitumen (i.e. tar sand oil) and tight oil (which isn’t really crude), production has been flat or slightly down since about 2005. Supply certainly hasn’t spiked in a way to produce this sudden drop. Demand in China is decreasing (despite their stockpiling of reserves).
louis wu on Tue, 2nd Dec 2014 12:07 pm
“The gloom & doom would go away permanently, if we would start making oil & gasoline using nuclear reactors. Probably a Thorium fuel cycle. You have to generate more energy than what is in the gasoline.”
What is the source of energy that would be used to operate the equipment used to find mine and transport the thorium and build the actual reactor buildings other than say gasoline and/or deisel?
ghung on Tue, 2nd Dec 2014 12:23 pm
“The gloom & doom would go away permanently….”
Don’t confuse the techno-bargainers, louis. They would assume things would get better by installing a water-saving toilet and a few solar panels on a house which has a crumbling foundation, a leaking roof, where the neighbors throw their trash on the lawn, their aren’t any jobs, the government doesn’t care, there’s nowhere to move to, and the weather gets worse every year. Nice toilet though.