Stepping onto the commodities roller coaster


It’s an opportune time to reflect on the performance of the resources sector during the first half of 2011 and to try to predict what might happen over the balance of this year and beyond. The one thing we know for certain is that market volatility and investor uncertainty will continue.
After two straight years of outstanding gains for most commodities, the first six months of 2011 wasn’t as lucrative for investors. By the end of June, only two commodities, silver and coal, had generated double-digit price increases. But this shouldn’t detract from the overall sector performance, as most commodities actually held up well.
In terms of the star performers, silver and coal were the obvious stand-outs, rising by more than 12%, followed by gold with a 6% increase, crude oil with a 4% gain, and lead and aluminium both with a 2% price improvement.
Corrections like those experienced in May are perfect opportunities to put market movements into their proper perspective. Back then the prices of gold, silver and oil plummeted dramatically. Oil prices fell below US$100 per barrel, gold fell back below US$1,500 per ounce and silver plunged to US$35 per ounce. Since then there has been a major resurgence.
Things are however heating up in the precious metals space, with gold easing through the US$1600 per ounce barrier to a new all-time high and silver pushing up through the US$40 per ounce mark. As the debt situation in Europe, the US and Japan has continued to deteriorate, the safe-haven value of gold and silver is once again coming to the fore.
If you’re a silver investor you know all about volatility. It’s certainly been a wild and exciting ride. The price has been on a roller-coaster for the past 12 months, surging during the early part of 2011 by as much as 80% as it played catch-up with the gold price; then falling off the proverbial cliff as speculators en masse deserted the metal.
Of course, the underlying fundamentals for silver have changed little during this time, but common sense typically gets lost amongst the hysteria. This is why I believe the silver price can continue to firm and once again challenge the US$50 mark before the end of 2011.
It’s the same situation with gold. Gold has surged to a new record above US$1,600/oz and could comfortably surpass US$2,000/oz over the next
12 -24 months, driven by ongoing US and European debt concerns and currency weakness.
Coal continues to be one of the strongest performing commodities. Its price momentum is being generated by many factors, related to both supply-side pressures as well as sound demand from steel and energy end-users, which will help underwrite above-average performance.
China’s thermal coal shortage is serious. No other country is more affected by rising coal prices than China. As the world’s largest coal consumer, accounting for nearly half of the world’s coal consumption, China is highly exposed to rising coal prices. The country is facing its worst-ever power shortages this summer.
Thermal coal prices are about a third higher than the same period a year ago, while coking coal prices have risen by a robust 50% over the past year. One of the major factors is China’s still-robust steel industry. Meanwhile on the demand side, coal production out of Australia’s east coast, particularly Queensland, remains constrained by weather and infrastructure issues.
Demand-supply factors are also having a big impact on another two important commodities, copper and oil.
While copper demand in the emerging world continues to climb, particularly for residential construction, the supply-side is being threatened by terminal decline in grades at the world’s biggest copper mines. Without exception, all of the world’s biggest copper operations in North America, South America and Asia, are faced with steadily declining production as operations become more mature.
The London-based research company, CRU, estimates that average worldwide copper grades have fallen by about a third over the past decade. That means miners now have to dig and move a third more dirt to produce the same amount of copper.
To remedy the situation, the world’s biggest miners now have to search in riskier global destinations, typically for deposits that are deeper, lower-grade and more costly to develop. Companies will demand higher prices in order to push the button on the huge expensive projects needed to meet future demand.
The situation is even worse when we examine the crude oil market. Decades of under-investment in both infrastructure and exploration by all OPEC nations has left the world oil market precariously placed. What most oil insiders know is that OPEC has virtually no capacity to boost production levels by any reasonable margin and for any significant period of time.
The world’s major oil fields are declining more rapidly than anyone would have imagined, and most major oil-producing nations (such as Iran, Venezuela, Libya) have no way of attracting the desperately-needed foreign investment to help arrest the decline, let alone identify new discoveries.
I predict copper and oil, two of the best indicators of world economic growth, to perform strongly for the balance of 2011 and beyond. I believe copper prices can reach US$11,000/ton this year and that Brent crude oil can surpass US$120 per barrel this year and beyond.
Remember that the world is on an inexorable growth path, led by China and India, with commodity demand to remain strong for the at least this decade and the next. Retain your perspective, even when others might be losing theirs.

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