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2015 Commodities Outlook Summary

Core Content

The 2015 commodities outlook indicates a significant shift in the market dynamics, with a focus on the potential for a major cyclical bottom and a subsequent recovery. The document highlights the transition of commodity price discovery from being fundamentally driven to being increasingly influenced by technical trading and external factors such as the USD rally and growth recovery in China and Europe.

Main Points

• Seismic Shift in Commodity Markets:

  • A major cyclical bottom is expected in the first half of 2015, leading to a sustained recovery in the second half of 2015 and 2016.
  • The price discovery mechanism has been altered due to the dominance of high-frequency trading and aggressive Chinese hedge funds, leading to more volatile and less efficient markets.

• Fundamentals Remain Supportive:

  • Many commodity prices are below global marginal costs of production, indicating potential for price recovery.
  • Supply growth is expected to be capped by reduced capital expenditures, aging mines, and production issues, especially in base metals.
  • Base metals are projected to be in supply deficit in 2015 and 2016, while precious metals are constrained by the strong USD.

• Commodity Price Forecasts:

  • Oil: Brent is forecasted to average USD 60/bbl in 2015 and USD 75/bbl in 2016, with a potential rally to USD 65-70/bbl in 4Q14.
  • Base Metals: Expected to outperform, with prices projected to rise from 2015 onwards.
  • Steel and Bulks: Laggards, with prices expected to stabilize and recover gradually.
  • Precious Metals: Gold and silver are likely to see modest increases, constrained by USD strength.
  • PGMs and Diamonds: Prices are expected to show some recovery, though not as significant as base metals.

Key Factors Influencing Recovery

• Fund Short-Covering: The recovery in commodity prices is anticipated to be driven by substantial short-covering from funds, especially in crude oil and copper, which are market leaders.
• USD Rally: The USD is at 12-year highs, and its strength is a critical factor in commodity pricing. The timing of the first rate hike and the impact of lower oil prices on global growth will be important.
• China's Economic Recovery: Increased government investment, particularly in infrastructure, is expected to boost demand for base metals and steel, leading to a bounce-back in prices.
• Growth Recovery in Europe: Expected to contribute to the broader commodity price recovery.

China's 2014 and 2015 Outlook

• 2014 Growth Slowdown:

  • China's GDP growth slowed to a 24-year low of 7.4% YoY.
  • The property sector experienced a sharp decline, with residential and commercial sales falling significantly.
  • Shadow banking credit was squeezed, contributing to the slowdown in growth and affecting industrial production and demand.

• 2015 Bounce-Back:

  • The PBoC has implemented easing measures, including rate cuts and RRR reductions, to support growth.
  • Increased government investment is expected to drive demand for steel and base metals, with steel consumption growth projected to rise from 1% in 2014 to 6-7% in 2015.
  • The final year of the current 5-Year Plan (5YP) is anticipated to see increased spending, accelerating project completion.

Increased Volatility and Technical Trading

• Dominance of Technical Trading: High-frequency trading and aggressive Chinese hedge funds have become dominant, leading to increased volatility and less efficient pricing.
• Volatility Surge: The volatility in commodity prices has risen sharply, with significant intra-day movements, especially in copper, gold, and crude oil.
• Impact of Chinese Futures Markets: The expansion of commodity futures markets in China, particularly for iron ore and coking coal, has enabled large-scale short selling and contributed to price declines.

Market Balance and Supply Constraints

• Oil Market Balance: The global oil market is expected to remain in surplus in 1H15, with a potential shift to balance or deficit in 2H15 due to slowing US production and increased demand.
• Supply Constraints: Reduced capital expenditures, project deferrals, mine closures, and resource nationalism are expected to cap supply growth, leading to tighter physical availability and price increases in the medium term.

Summary of Key Trends

• Commodity Prices:
  • Many commodities are trading below marginal costs, suggesting potential for recovery.
  • Prices are expected to rise as supply growth slows and demand stabilizes.
• Market Dynamics:
  • Technical trading and external factors are increasingly influencing price trends.
  • The dominance of Chinese hedge funds has altered the traditional supply-demand dynamics.
• Outlook for 2015:
  • A recovery is expected to begin in 2Q15, with a more sustained increase in 2H15 and 2016.
  • The key drivers include short-covering, USD moderation, and increased demand from China and Europe.

Conclusion

The commodities market is undergoing a significant transformation, with technical trading and external factors playing a more prominent role in price discovery. Despite a 12-year low for the Bloomberg Commodity Index, the fundamental outlook is positive, with supply constraints and increased demand expected to drive prices higher in the coming years. The recovery is anticipated to be gradual, with the first half of 2015 marking a major cycle bottom and the second half leading to a more sustained price increase.