When looking at one's screen and seeing that all Commodities are up 2%+ on any given day, regardless of one's fundamentals, it smells of portfolio asset allocation towards Commodities. Such indiscretion in the moves seen on the day is reminiscent of money coming into the sector. The last time we saw a bull market in Commodities was back in 2015 following the surge in Chinese stimulus buying post the Yuan devaluation. Before that, the secular bull market in Commodities reached a peak in 2011. Since 2018, President Trump's trade wars has put a lid over Commodities and goods demanded by China in general, given the tariffs and slowing down of world demand prior to the Covid-19 pandemic. This trend was exacerbated when the pandemic hit as markets and Commodities in general collapsed across the board. Since then, not only have most Commodities recovered their March levels, some are making new all-time highs like iron ore, steel, copper, and others. What is going on and what caused this paradigm shift?
China was one of the first countries to suffer from the pandemic related shutdown shock and since then, it has announced a ton of infrastructure related measures to boost its economy out of the negative GDP growth rate earlier in the year. The best way for any country or economy to get to their desired GDP target is to announce fiscal stimulus spending via infrastructure. It creates a boom in all raw material prices, industries and eventually jobs. But they are doing this via even more credit fueled growth. The end justifies the means. We can debate ad nauseam about their choice of growth, but one thing is for sure, demand is picking up aggressively in China and that is leading to the higher PMI and Industrial production figures. Its new bank loans hit a new record high for the month of November. China's M2 supply has increased 10.7% y/y in November vs. 10.5% in the previous month, and 8.2% a year earlier, according to PBOC. Chinese banks have extended 1.43 trillion yuan in new loans in November alone, 45.6 bln yuan higher than the same period last year. As an example, 25 major machinery manufactures sold a total of 32,236 excavators in November, that is up 66.9% y/y according to the China Construction Machinery Association. That is how much construction and building is going on out there.
For the first time since 2015 yuan devaluations, China's credit impulse - change in growth rate of aggregate credit as a percentage of gross domestic product - is running above 5% of GDP. It tends to lead Industrial Commodity prices by 6-9 months and is often a leading indicator. This is the reason why we have seen higher prices in iron ore, steel and other base metal prices. To make matters worse, supply has also fallen short of targets this year. As Brazil suffered from global cases, and production of key iron ore delayed together with trade tensions between Australia and China, this has led to an even higher surge. A double whammy effect.
The third and final boost, has been global central bank monetary policy accommodation via endless money printing with no end in sight. The world is awash with debt and there seems to be no other solution but to raise even more debt to dig themselves out of a recession. The only way to pay back this debt would be deflate it. Hence the total debasement of Fiat currency. We have not seen inflation in the past during the last few times central bankers embarked on QE. But given the sheer magnitude of $4 trillion done over a matter of months, we are already beginning to see the effects of it. The Fed's preferred measure of CPI, means their view of targeted inflation is a lot higher than what it currently is. They will let the economy run way hot before even considering raising rates or normalizing their balance sheet. This can only mean one thing, higher inflation linked Commodities, namely precious metals as well.
Things move in cycles and Commodities in general have been long forgotten. But it seems the trifecta effect of higher demand, lower supply and liquidity flush is all setting up to take Commodities even higher into 2021. Rising tides lifts all boats, but it is best to be in those commodifies that have deficit inventory levels and that are directly benefitting from a demand pick up, namely the base metals and precious metals. The laggards like oil may rally a bit too, initially, but it's best to be in ones that make sense fundamentally as well, for when the dust settles, quality will be left standing.
