Commodity Prices Soar Despite Pandemic

Counter-intuitive trends are unfolding in the world’s economy. Despite economic news that is likely the most dire in our lifetimes, commodity prices are staging a spectacular rally.

Iron ore, the leading ferrous metal, has hit multiyear highs. Base metals, which include copper and aluminum, also are rising dramatically. My favorite commodity index is the CRB Raw Industrials, which measures actual factory-door prices (as opposed to the generally more speculative numbers on futures exchanges). Raw industrials have risen at a 30-week rate that has occurred just nine times in the past 40 years.

If history is a guide, these trends strongly suggest that further gains in commodities lie ahead. In all those previous instances, the index continued to rise over the following 26 weeks and in many cases for far longer. On a compounded basis, the additional gains account for well over 100% of all the gains commodity prices have made in the past 40 years. (In the nearly 20 years between the early 1980s and 2000, commodity prices declined.)

Accelerating Gains

Oil is the exception that proves the rule. Yes, oil suffered this year from a large onetime pandemic-related drop in demand, which the International Energy Agency projects will be made up sometime next year with at least 10 years of demand growth thereafter. Over a longer time frame, oil has lagged for more than a decade because of fracking. But let’s be blunt: fracking has been a self-defeating effort to make the U.S. energy-independent.

Typical estimates are that fracking has consumed about three-quarters of a trillion dollars in capital expenditures and so far has rewarded the industry with a negative $200 billion in cash profits. The glorification of fracking by many in the U.S. is exactly the kind of craziness that is part and parcel of a country moving ever more in the wrong direction.

The recent strength in commodity prices accelerates a trend that has been in place for the past generation. But as this trend has picked up steam before our very eyes, Wall Street has been (and continues to be) blind to it. A recent lead story on Bloomberg is headlined: “The 60/40 Portfolio is Muzzling Critics with Another Big Year.” The “60/40” is a reference to how financial advisors recommend that you structure your portfolio: 60% stocks, 40% bonds.

As evidence for the putative success of this formula, the article cites the 13% return that particular combination of financial assets has chalked up year to date. Not bad, but a far cry from the 20% return chalked up by a 60/40 weighting in gold and copper.

That’s in line with the comparative gains since the century’s start. In the past two decades, gold/copper, weighted 60/40, returned a cumulative 442% compared with 140% for stocks and bonds with dividends reinvested.

The Impetus of Developing Countries

Between 1960 and 2000, the economies of developed countries, despite having only about 15% of the world’s population, as a whole were larger than the economies of developing countries. But you didn’t have to be a genius to know that freer trade, a product of the early part of the century, would reverse the ratio and that China, and to a lesser extent India and other developing countries, were destined to take the lead.

I made this basic point in 1999 in my book Defying the Market, noting that massive markets in countries such as China and India would mean rising demand for commodities and our technology wasn’t addressing this most pressing issue. It was no secret that developing countries would be growing rapidly. Any basic economics course teaches that when developing and poor economies grow, they grow on the back of commodities.

Rising demand for raw materials from developing economies will get an additional kicker from a global push to transition to renewable energies, an effort that will require a gargantuan leap in commodity use. One reason is that electrification is the key to renewable energies. When you think electrification, you have to think copper…lots of it. Growth in developing economies also means growing demand for oil for use in petrochemicals.

The bottom line is, don’t forget to invest in commodity stocks in a diversified portfolio. The prices of copper and other vital commodities are staging a remarkable rally that should continue into 2021 and beyond, as economic recovery and construction projects fuel the need for raw materials.

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