23 Nov 2021
Portfolio Manager George Cheveley explains why the winds of change are blowing through commodity markets.
We’re entering a new phase. Commodity prices have been very strong during the recovery from the pandemic, as economies reopened. But now conditions are changing, and there’s a major slowdown in China. Commodities like iron ore, of which China is the main consumer, have more than halved in recent weeks. Next year, I expect much greater divergence in performance across different commodities.
Energy will clearly be a major influence. The market is very tight and the prices of natural gas and other energy-sector commodities have risen sharply. This is impacting production across industries, driving up costs and creating other knock-on effects. As we enter winter in the Northern Hemisphere, when heating requirements increase demand for gas and certain other natural resources, investors will need to monitor the effects that the energy complex is having not just on commodity markets, but on the global economy.
Investors shouldn’t ignore the slowdown in China, either. The Chinese government is no longer focusing solely on economic growth, with other objectives like quality of life and reducing emissions rising up the agenda. So don’t expect the Chinese authorities to implement the kind of stimulus they unleashed in response to past slowdowns. As we’re already seeing, this policy shift is leading to very divergent moves among metals.
The net-zero transition is a major structural trend that will create a suite of opportunities for investors. For example, decarbonisation requires large amounts of various commodities, which is generating market imbalances. We’re already seeing this: the price of lithium, which is used in battery technologies, is at record highs.
At the same time, efforts to tackle climate change are disrupting markets. To reduce emissions, China will produce less of ‘high-carbon’ products, like steel and aluminium, for export. However, the West still needs a lot of these metals, not least to achieve its own energy transition. That means it will have to make much more of them itself, and at present it is not geared up to do so. This ‘de-globalisation’ of supply chains is causing regional tightness in various metals and other commodities.
So overall, the energy transition will lead to a range of opportunities and risks for commodity investors, not only next year but over the next 10 years. I think an active, selective and intelligent investment approach will be crucial, because the impacts on markets will be complex and continually evolving.
We have been adjusting positioning as we enter this new phase in commodity markets. During the COVID recovery, we were primarily focused on industrial metals and other commodities linked to consumer durables, and underweight oil and energy. Heading into next year, we think it makes sense to have a higher weighting in energy and the more energy-intensive metals, which have the potential to outperform.
Also, after a fairly dull year for gold, the precious metal is looking more interesting again. With the post-pandemic bounce-back behind us, it’s very difficult to predict what will happen as stimulus gets unwound, and inflationary pressures remain significant. Heading into uncertain times, gold and gold equities could be useful portfolio diversifiers.
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With Western central-bank policy normalising, economic growth rates diverging and global trade still readjusting to life after lockdown, investors have a complex environment to navigate in 2022.
Ninety One’s portfolio managers assess the outlook across their asset classes and regions.
Our team also takes a deep dive into the outlook for emerging markets, as well as into how sustainability will drive investment outcomes next year and beyond.