Commodities: what are they and why have prices been rising?

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Personal Investing

23 March 2021

We examine what’s behind commodity price rises and wonder if the trend will continue.

As investors we might not ‘trade’ commodities, as characterised in the plots of some of the great, iconic American movies; remember Trading Places and pork bellies? But, as economic goods, we certainly use many of them on a daily basis.

Many of us fill up the car with petrol or diesel (both are obtained from oil ), some of us take sugar in our tea or coffee, for breakfast we’ll eat toast or wheat-based cereal, while many of us wear gold or silver jewellery. Collectively, tea, coffee, sugar, and wheat are known as ‘soft’ commodities, while those of oil, gold and silver are known as ‘hard’ commodities.

Given these goods are a vital part of our everyday living, when the price of such commodities goes up or down, it affects us all. And prices of commodities have fluctuated quite sharply since the onset of the pandemic.

Around this time last year, the price of oil turned negative for the first time in history as the collapse in global demand for oil, brought about by worldwide economic shutdowns, briefly sent it spiralling below zero.

A year on and the fortunes of the global economy have, fortunately, taken a turn for the better. The onset of COVID-19 vaccines and the gradual easing of lockdowns have meant that economists are pencilling in much higher growth levels for the second half of the year. Higher economic growth generally means higher demand for essential goods and hence higher commodity prices.

The start of a commodity ‘supercycle’ - premature in our view

Indeed, such has been the rise in commodity prices from the COVID-19 lows that it has fuelled talk of something known as a commodity supercycle. The definition of a supercycle is typically defined as sustained, above-average price rises in a wide range of basic goods which could last over several decades. The last supercycle started in the early 2000s with rapid economic growth in China driving strong demand for these types of goods.

In theory there are several reasons why investors may think commodities could now see another prolonged price rise. President Joe Biden’s ambitious new policy on tackling climate change – the most serious of any US presidents  could result in increased demand for copper, nickel, lithium and cobalt (all of which to varying degrees are used in electric cars, wind turbines, or solar panels). This, coupled with talk of rapid economic growth leading to a possible increase in general prices across the economy (otherwise known as inflation), could be another reason behind rising commodity prices. 

But there are several reasons why we think talk of a commodity supercycle is premature:

  • On the moves to tackle climate change, estimates suggest it won’t be until 2030 at least that the real drive to help the environment will play a major part in commodity demand.
  • In terms of rapid economic growth, we feel that as optimism on the global economy is approaching its highest levels in around 20 years, there may be limited scope for further upward price movement in commodities.

Indeed, as economic growth accelerates throughout the middle of 2021, and given stock markets have already discounted much of the good news it is perhaps more likely that any surprises may be negative ones. As a result, we are sceptical about the likelihood of further sharp rises in commodity prices from these levels.

Remember, the value of any investment is not guaranteed. The value of investments and any income received from can go down as well as up and you may not get back as much as you had originally invested.