Commodities As An Asset Class In 2016?

Naveen Mathur  Associate Director of the Commodities & Currencies businesses at Angel Broking

Non-agri commodities have been at the helm of losing its value for most of 2015 with nickel (-40.7%),zinc(-26.7%), copper (-26.6%) the heaviest losers in the base metals pack followed by the oil complex, crude oil (-25%), natural gas (-24.3%) being the second worst performer in the entire lot after base metals. On the contrary, gold and silver has lost its value by around 8.2 and 7.1 per cent respectively, the least in the non-agro commodities complex.(YTD values, till 4th Dec’15).

Base metals have witnessed a dismal performance in 2015 as major consumer China has been battling sluggish growth and deflation with June’15 Shanghai stock market crash and Yuan devaluation being an indication of the same. Another drawback for dollar denominated metals is increasing anticipation of the US rate hike in Dec’15 for the first time in nearly a decade.

Amongst base metals, nickel has faced the most heat and even plunged to 12-year low levels as weaker-than-expected global stainless-steel consumption took a toll on prices. This could be attributed to Chinese producers of stainless steel, who are working through existing stockpiles and have scaled back imports. Besides, zinc, which is popularly used in galvanisation, also bore the brunt of falling stainless steel demand and fell by 29 per cent in 2015.

As China accounts for roughly 40 per cent of global copper demand, the red metal is among the worst performers as weakness in Chinese economy translated into weaker demand. Further, investors fear China’s shift to a consumer- driven economy from investment-led expansion will slow demand in the world’s biggest user.

For oil complex, the underlying factor behind the weakness in oil prices is a combination of slow growth in global economy, low demand while the supply side remains very comfortable creating the bearish sentiments. The International Monetary Fund has cut its global economic growth forecasts for three year in a row. It has revised its forecast of global GDP growth in October 2015 to 3.6 per cent versus its previous forecast of 3.8 per cent made in July 2015.

The bearish fundamentals suggest that oil traders and investors are preparing for another downturn in prices by March 2016, as what is expected to be an unusually warm winter which will be a dent to demand just as Iran's resurgent crude exports are hitting global markets after their sanctions ended.

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For gold, the talk of US raising its interest rates and stronger dollar limited the rally in gold last year. These factors continue to hold significance in 2015 and will continue next year also. Focus has now shifted towards an improving US economy, a strengthening Dollar Index and expectations that macroeconomic conditions in the coming months would be better as the economy grows.

This would lead to rise in the interest rate in the US. Investors’ appetite towards gold as a safe haven has drastically reduced since past few months and these will lead to gradual shift of funds from gold to other asset classes like equities exerting downside pressure on the yellow metal.

The prime reason for fall in silver prices in 2015 is due to fall in all the base metals pack. Also, gold and silver prices move in tandem, hence a more than 8.5 per cent fall in the spot gold prices led to the fall in silver prices in 2015. Besides, dollar index and commodities share an inverse co-relation, strengthening of dollar index by around 8.5 per cent in the same time frame have had profound impact on silver prices. On the contrary, 5.72 per cent rupee depreciation cushioned sharp fall in silver prices on the MCX

The way forward

Gold is set to remain under pressure until there is more clarity on the timing and scale of the US rates normalisation. Among other bearish factors are low inflation expectations and generally weak investor sentiment towards precious metals.

Oil markets are well supplied, with recent figures showing global production outstripping demand by around 1.5 million bpd. Besides, IEA forecast says that global demand growth is expected to slow from its five-year high of 1.8 mb/d in 2015 to 1.2 mb/d in 2016.

On the other hand, rising US crude inventories which are at record highs at 487 million tonnes as on 11^th November 2015 has been a cause of concern signaling bleak demand. Oil below $50/bbl is a powerful driver in rebalancing the global oil market, but the big question is just when will equilibrium be restored.

All in all, commodities have been hammered in 2015, and the likelihood of it giving handsome returns in 2016 looks less likely. However, one can invest in Crude oil and silver as these commodity can give handsome returns of more than 20 percent in the the year 2016 as sustainably low prices will compel the oil producers to cut the output and rase oil prices while silver market is expected to be in deficit of around 600 tonnes in 2015 giving a boost to the asset.

Among agri-commodities, sugar might be the best bet in coming year due to persistent unfavourable weather caused by El Niño, which may cause 2015-16 and the subsequent year, a deficit of 3.5 milion tonnes. This deficit is driven by a fourth year of decreasing global production while global consumption continues to increase.