Evening Brief – 01.22.24
What About Commodities?
While most major asset classes witnessed a rock-star performance in 2023 commodities were the clear exception. However, when one asset class deviates significantly from the overall trend, it is worthwhile to analyze the implications for asset allocation.
For portfolios with little or no exposure to commodities, there is a case for increasing exposure as a diversification buffer against unforeseen problems. Of course, the coming year could be another down year for raw materials. However, following last year’s downturn, a significant portion of the risk of further losses has theoretically diminished, if mean reversion prevails over time.
Commodities may remain flat this year. Yet, the risk-reward appears to be relatively good if you believe that one or more surprises in 2024 will cause prices to climb.
For an overview of current patterns, the Invesco DB Commodity Index Tracking Fund (DBC) is an excellent place to start. The fund lost 6.2% in 2023 and is practically flat so far this year.
“Abundant supply [in key commodities] suggests a sedate first half of the year,” wrote The Economist. What could lift prices? Perhaps an upside surprise in inflation, or stronger-than-expected global growth.
Gold can be a beneficiary of geopolitical risk. “The ascent of gold prices in 2023 was fueled by sanctions against Russia, (and more recently the Israel-Hamas conflict) disrupting gold supplies and resulting in a 38.7% reduction in COMEX gold inventories since January 2021”, according to Saqib Iqbal, a financial markets analyst at Trading.Biz. “Banks are now pressured to reclaim gold lent to investment funds to bolster their balance sheets.”
The forecast for gold is $2,200 this year. This bullish setup is attributed to closing gold swaps by the Bank for International Settlements, regulatory changes and global economic factors.
The current price trend for agricultural commodities is likewise optimistic. Meanwhile, base metals remain flat, extending the tight trading range that existed in the second half of 2023. Crude oil is still trading in a range after the spike that began last summer was reversed.
The potential for price spikes from attacks on commercial shipping in the Red Sea remains a concern, notes ING. “For commodity markets, the increased tension poses supply risks, with energy markets most vulnerable. However, for oil and LNG [liquified natural gas], we are not seeing any fundamental impact on supply yet.”
Overall, the outlook for commodities appears to be neutral. However, the fact that the crowd is betting on this to persist makes the asset class more appealing as a contrarian view in 2024.