Too Much of Everything Spurs Commodity Exodus as Price Wars Rage

Investors are bailing out of commodity funds at the fastest pace on record, and the exodus shows no signs of ending.

U.S. exchange-traded funds linked to broad baskets of raw materials saw a net outflow of $919 million over the first three months of the year, the most of any quarter since the securities were created in 2006, data compiled by Bloomberg show. Bank of America Corp. says ample supplies have unleashed price wars, and Goldman Sachs Group Inc. predicts a 20 percent drop for commodities already near a 13-year low. Morgan Stanley and Societe Generale SA also have cut forecasts for a whole range of items.

Rising supplies created bear markets over the past year as drillers unlocked more oil and natural gas, copper mines expanded and farmers harvested record corn and soybean crops. The strongest dollar in at least a decade encouraged countries with weaker currencies to export more. While the U.S. economy is strengthening, Europe is still contending with its debt crisis and growth is slowing in China, the top user of everything from iron ore to pork.

“This is not the best time to be making wagers on commodities,” Sameer Samana, a global strategist in St. Louis for Wells Fargo Investment Institute, which manages $1.6 trillion, said in an interview March 24. “Base metals and farm commodities are very sensitive to global growth, and most of these markets are oversupplied. China and the emerging markets have been pretty weak and are not growing fast enough to create demand.”

Slumping Prices

The Bloomberg Commodity Index of 22 raw materials is down 5.1 percent since the end of December, after slumping on March 18 to the lowest since June 2002. Crude oil, which averaged almost $96 a barrel in the three years through 2013, touched a six-year low of $42.03 on March 18. Agriculture led the quarter’s retreat, with double-digit declines in the quarter for wheat, coffee and sugar.

The commodity index is heading for a fifth straight annual drop, the longest slide since the data began in 1991. The slump ended a decade-long super-cycle of demand fueled by double-digit growth in China. After prices surged to records for everything from corn and copper to crude oil and gold, production surged.

Hedge funds are exiting commodities, based on futures and options for 18 U.S.-traded items. Since bullish bets reached the highest ever in April, net-long positions on March 24 are down 98 percent to 37,708 contracts as of March 24, government data show. The measure tracks the number of contracts, not value, which ranges from about $120,000 for gold futures to $13,600 for sugar.

Dollar Drag

Commodity exporters have boosted shipments as their currencies weakened. The Bloomberg Dollar Spot Index surged 18 percent in the past year, and on March 13 reached the highest since the measure began in 2004. Coffee exports from Brazil, the world’s top grower, are up 10 percent in the eight months through February and the highest since at least 2011.

Weakening energy and mineral prices led Caterpillar Inc., the largest maker of construction and mining equipment, to forecast in January that sales would drop 9 percent this year to $50 billion. The Peoria, Illinois-based company reiterated the forecast March 17.

In China, the government on March 5 forecast 7 percent growth this year, the slowest since 1990. While the U.S. is forecast to grow 3 percent in 2015, the most in a decade, signs are emerging that a global slowdown may weigh on manufacturers as a strong dollar slows exports. Orders for goods meant to last at least three years fell 1.4 percent in February, the government said March 25.

Bullish Outlook

Not all commodities face surpluses. Standard Chartered says global demand for aluminum, zinc, nickel and tin will exceed output in 2015. Macquarie Group Inc. predicts the metals will rally.

Low interest rates and cheap supply may boost demand. To spur their economies, the European Central Bank pledged 1.1 trillion euros ($1.2 trillion) in bond buying and Japan bought assets. Canada, Singapore, Denmark, Russia and Switzerland all eased monetary policy in January. In China, policy makers will take action if growth drifts too low, Premier Li Keqiang said this month.

“Demand for commodities in the U.S. has stayed pretty strong, and if the stimulus works on the other side of the Atlantic, that could certainly help demand conditions,” Christopher Burton, a fund manager at Credit Suisse Asset Management in New York who helps oversee $10.1 billion in commodity related assets, said by telephone on March 25.

Bear Markets

Most commodities remain in a “structural bear market,” and with the macro recovery still under way, equities are more appealing than raw materials, Goldman analysts led by Jeffrey Currie wrote in a March 13 report. The S&P GSCI Enhanced Total Returns commodity index will slide 18 percent over three months and 20 percent over six months, the bank said. The gauge is down 7.4 percent this year, after a 33 percent plunge in 2014.

In markets like coal, iron ore, copper and oil, surging output has put commodity producers in price wars that show no signs of easing, Bank of America analysts led by Francisco Blanch said in a March 19 report. Compounding the problem is the dollar, which may “compress” global growth by $2 trillion this year, they said.

Short Bets

Societe Generale, in a March 18 report, recommended betting on price declines for Brent crude and gasoil futures for June delivery, natural gas for October delivery, copper futures for December delivery, and spot gold. The Paris-based bank pared its second quarter outlook for 21 of 43 commodities it tracks, including wheat, soybeans, sugar, coffee and cotton.

“Commodities had a super cycle from 2002 to 2008, and now it appears to be reversing,” Jack Ablin, the Chicago-based chief investment officer at BMO Private Bank, which oversees $68 billion, said March 25. “We had a huge cycle and that invited a lot of new entrants for mining and oil exploration and production. The supply side has probably outpaced true demand.”

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