Commodity cushion

The financial market meltdown, triggered by last week's downgrade of US debt rating and continuing European sovereign debt concerns, has once again exposed how vulnerable markets are to negative news and how quickly investor confidence can be eroded. To be sure, over the last three months, the OECD composite leading indicators have pointed to an ongoing global slowdown; and the June 2011 data have reaffirmed the position. Clearly, there are uncertainties associated with the trajectory of global economic growth in the coming months. It is also believed the positive effects of various stimulus packages may have run their course. Additionally, OECD data suggest a creeping slowdown in China which exacerbates the fragile sentiment. Barring gold, widely accepted as a safe haven investment asset, the important fallout of the latest global market meltdown is the steep decline in the prices of commodities that are largely growth-driven.

Energy products and many base metals have recorded sharp price corrections in the last few days. Brent tested $100 a barrel and copper rules well below $9,000 a tonne, for instance. Zinc, nickel and tin have suffered the most (double-digit value loss) in the latest metals sell-off. So, the vagaries of the macroeconomic data and fickle sentiment towards risk will remain the overriding drivers of commodity prices in the near-term. It is debatable how much more downside risk to commodity prices there is, but it is certain that downward pressure on commodity markets will continue until the flurry of negative economic data subsides.

It is obvious that for large consuming economies such as China and India, which are dependent on imports, the current global prices are a fairly attractive bargain. It would be prudent to take timely advantage of falling prices and not wait until the market bottoms out. Indeed, there is strong possibility of commodity markets bottoming out sooner than many imagine. Crude market fundamentals are tight and positive for prices. Demand is fairly robust, while non-OPEC supplies are unlikely to expand. Copper and lead face supply-related constraints. In aluminium, price downside is limited by high and rising production costs. China is widely believed to be coming to the end of its destocking cycle, in the wake of continual tightening of bank credit. Imminent restocking demand from China is sure to provide the booster dose the commodity market badly needs at present. Also, there is the risk in being worried about the ongoing gloomy macroeconomic environment and missing the bigger picture of commodity markets that remain fundamentally well supported and can bounce back. It is important, therefore, for importing and consuming countries to perceive the latest development as a buying opportunity.

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