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Time to reconsider commodities?

Last year the so-called commodities “supercycle” was widely declared dead, but with price drops – and investors more optimistic about the global economy on the whole – it may be worth rethinking shunning this sector.

From the late 1990s to the 2008 crisis, the price of oil rose 1,062%, while copper shot up 487%, according to investment house Pimco. Behind this meteoric rise were emerging markets where wealth was growing quickly, causing increased demand for food, energy and the inputs of industrialisation and urbanisation.

Contrast this with last year’s prices for nickel and aluminium which, amid widespread falls in metal prices, dropped 20% and 17% respectively. In addition, according to the International Monetary Fund, prices of commodities such as sugar and wheat ended the year below their 2011 and 2012 year-end prices, as many soft commodities fell to 2010 lows. However, supply deficits are likely to emerge for cocoa and sugar this year, according to Rabobank.

But while emerging markets buoyed investor optimism in the aftermath of 2008, today it is developed economies. A recent Bank of America Merrill Lynch survey showed investors started 2014 feeling more optimistic about the world economy than they did a year earlier, but were wary of emerging markets and commodities – identifying the biggest “tail risk” to the world economy as being a hard landing in China and a commodities collapse.

While developed market growth is less industry focused, it will nevertheless support commodity prices and help buffer any slowdown in the emerging world due to demand from the US and Europe.

Another factor to consider is the long-term effects of capital spending in the energy sector. Between 1998 and 2008, various commodity markets suffered from years of underinvestment, according to Bloomberg. This has changed, easing supply constraints. While this puts downward pressure on prices, it could pay off in the long-term, especially as energy companies are now likely to rein in spending due to investor pressure.

The global economy continues to improve and, while commodities might not offer supercycle-style returns in the immediate future, over the coming years they could still offer up many opportunities to diversify and collect healthy returns. 

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