The rally in some commodity prices over the summer is unlikely to be sustained according to QNB Group's analysis. [1] While prices of oil and agricultural commodities increased sharply due to factors like drought, other commodities like metals performed weakly, suggesting the rally is narrow.[2] Unlike 2008, the current rally is driven more by hopes for economic intervention than actual improvement.[3] Downside risks include a stronger dollar from no further QE or global economic deterioration reversing demand gains.

1. QNB Economics
economics@qnb.com.qa
07 September 2012
Commodities rally is partial and unlikely to be sustained
There has been a sharp rally in some commodity prices natural gas and industrial metals, have performed
over the summer. However, QNB Group’s analysis weakly over the same period.
suggests that the rally is largely due to certain specific
and temporary factors. Therefore, it is unlikely to be This suggests that the current rally is very different in
extended substantially and could easily be reversed if nature to the one seen in summer 2008. In that case,
there is further global economic deterioration. the spike came in the context of booming emerging
market economies and a very weak US dollar, which
During August, the S&P GSCI, a key index of global encouraged investors to buy commodities as a hedge
commodity prices, increased by 6.2%, its most rapid against inflation. That rally involved a broader range
monthly increase since April 2011. This came on top of commodities and was the culmination of a years-
of a 6.1% increase in July, and brought the total long trend of rising prices.
increase since 21st June to 20.8%.
The current rally, by contrast, is partly a bounce back
S&P GS Commodities Index (Jan–Aug 2012) after a period in which the prices of risk assets,
including commodities, had been declining due to
concerns about the Eurozone and the health of the
wider global economy. This risk-asset bounce did not
happen because of a dramatic turnaround in the
situation. Indeed, much of economic data released in
recent months has continued to be negative. Instead,
the market has just become more hopeful about the
prospects for state intervention and stimulus,
particularly in the Eurozone, US and China. This has
driven up equities, which had hit a low point in early
June, and also contributed some of the momentum to
commodities. Some commodities, especially gold are
also seen as a safe haven in times of uncertainty.
Gold has rallied by 7.1% since 24th July, and spiked to
a five-month high after a speech on 31st August by the
US Federal Reserve (“the Fed”) chairman, Ben
Bernanke. This is because the market generally judged
Jan Feb Mar Apr May Jun Jul Aug Sep
that the tone of the speech was supportive of further
Source: Standard & Poors and QNB Group analysis quantitative easing (QE), although he made no direct
policy announcements. QE involves buying back
government bonds and tends to boost markets as
The index, constructed by Goldman Sachs and investors who sell their bonds to the Fed reinvest them
maintained by Standard & Poors, is used as a in other assets. It also tends to devalue the dollar by
benchmark for many funds investing in commodities. increasing the supply of the currency in circulation.
Each commodity is weighed in proportion to their
level of production, and hence to their importance in Evidence of this effect is seen in exchange rates as
the global economy. As a result, it is dominated by oil, well as Gold prices. The Dollar Index, a measure of
which partly explains the index’s sharp rise in recent the dollar’s value against a basket of major currencies,
months. It has also been bolstered by rising fell by 3.5% from 24th July to 31st August, the period
agricultural commodity prices. in which expectations that QE might happened
increased in response to further poor US economic
Although oil and food prices have both rallied strongly data.
since late June, driving up commodity indices such as
the S&P GSCI, they have done so for different Commodities, which are priced in dollars on global
reasons. Meanwhile, some other commodities, such as markets, benefited during August from the moderate
1

2. QNB Economics
economics@qnb.com.qa
07 September 2012
weakening in the US dollar. A weaker dollar makes Selected Commodities (21 June – 31 Aug 2012)
commodities cheaper in other currencies, and hence (Rebased to value on 21 June = 100)
their dollar price tends to rise to match the foreign
demand. However, the weakening dollar can only
explain part of the commodity price rally in August,
and none of it before then.
The bulk of the rally since late June has been driven by
factors that are specific to certain commodities. Food
prices have increased the most and some items, such
as wheat, spiked up by over 40% in a month and hit US Wheat (Dec)
all-time highs in late July. This was a consequence of Brent oil (Oct)
the sudden intensification of drought in the US during Gold (Spot)
the critical summer growing season. Meanwhile, Brent Copper (Dec)
crude has risen by 29% from its low point on 21st
June, with geopolitical risk factors contributing to this
increase.
In contrast to oil and food, the prices of industrial
Jul Aug Sep
metals, such as copper and aluminium, have been
fairly flat over the summer and are well below their Source: Forexpros and QNB Group analysis
level a year ago. This is a sign of weak demand in the
global economy, particularly in China which is the
largest purchaser of industrial metals.
Looking forward, QNB Group expects increases in oil
and food prices to be limited, with significant
downside risks. Oil supply is expected to increase at
least as rapidly as demand according to IEA and
OPEC forecasts. Meanwhile, as the food market shifts
focus to the southern hemisphere and winter harvests
that are expected to be normal, some of the heat should
come off prices.
QNB Group notes that the downside risks to
commodities include the Fed deciding not to launch a
third round of QE, which would strengthen the dollar
and hence weaken commodities. More significantly, if
there is a further deterioration in the global economy
then this could weaken demand and led to falls in oil
and other commodity prices. Threats include a fresh
flare up in the Eurozone debt crisis or a failure by the
US to mitigate its approaching 2013 fiscal cliff of
spending cuts and tax rises.
2