Commodities rout drives out speculators

The commodities rout that knocked off US$99 billion of market value last week is driving out speculators and leading Goldman Sachs, which forecast the plunge, to predict a possible recovery.

The combination of slower growth in US service industries and fewer German manufacturing orders helped drive the Standard & Poor's GSCI Index of 24 commodities down 11 per cent in five days, the most since December 2008, and erased all the gains since mid-March.

Wheat, zinc and gold rebounded at the end of the week as US payrolls exceeded economists' forecasts, reducing concern that demand would weaken. "Given the magnitude of the pullback, it does create an opportunity for more upside potential, particularly in the second half of this year, when fundamentals are expected to tighten," said Jeffrey Currie, London-based head of commodity research at Goldman.

A month ago, Currie told investors they should be "underweight" in commodities. "In the very near-term, we'd be a little cautious," he says now.

The value of all 24 commodities tracked by the S&P GSCI index was about US$805 billion on Friday, compared with US$891 billion on April 29, according to data compiled by Bloomberg.

Combined holdings of exchange-traded products backed by precious metals fell to US$119 billion from US$132 billion, the data show.

Speculators retreated after investment funds had made near-record bets on price gains last month, and the S&P GSCI reached the highest since August 2008. Commodities beat stocks, bonds and the dollar for five consecutive months through the end of April, the longest in at least 14 years, on forecasts for demand exceeding output in everything from oil to copper to corn.

The most influential analysts and fund managers are divided on where prices are headed. The last time the S&P GSCI fell this much, the index rebounded 12 per cent the following week, and by the end of last month, it had more than doubled.

Bulls say the expanding global economy, led by growth in China, India and Brazil, is boosting demand at a time when producers - from BHP Billiton, the largest mining company, to BP, Europe's second-biggest oil producer - can't keep up.

Selling would be "premature," and the rally will resume, said Hussein Allidina, the head of commodity research at Morgan Stanley in New York, reiterating comments made before the rout.

"The decline we are seeing is not being driven by any meaningful change in fundamentals," he said.

"This is not a turning point," said Kevin Norrish, a London-based managing director at Barclays Capital, whose commodities research team is ranked by Bloomberg in the top three for copper and gold. "We'd expect to see a pretty good recovery from these levels before too long."

Brent crude should rebound about 3 per cent to US$115 a barrel in coming weeks because violence in northern Africa and the Middle East continues, said Christin Tuxen, an analyst at Danske Bank in Copenhagen.

Concern is that it may spread to regional producers including Saudi Arabia.

JPMorgan Chase & Co raised its oil-price forecasts for this year and next on Friday because it expects production to fall short of demand. Brent crude will average US$120 this year and next, from previous estimates of US$110 and US$114, the bank said.

Oil prices should match or top their recent highs by next year, Goldman said in a note to clients on the same day.

The bears say that even if the economy grows, speculation is so excessive that prices no longer reflect supply and demand.

The S&P GSCI Index is 39 per cent higher than a year ago and more than twice where it was in February 2009, when economies were recovering from the global recession.

Commodities are at the start of a bear market that may last as long as five to 10 years, said Michael Aronstein, the president of Marketfield Asset Management in New York, who correctly predicted the 2008 slump that drove the benchmark index down 66 per cent in seven months.

The scale of investment means "supply and demand is almost meaningless", Aronstein said in an interview on Friday. "It's almost like the last days of the tech bubble."

Oil, which lost 15 per cent last week in New York and 13 per cent in London, became "detached from fundamentals", said Oswald Clint, London-based head oil analyst at Sanford C. Bernstein, the joint-most-accurate oil forecaster tracked by Bloomberg in 2010. Brent could drop below US$100 a barrel, he said. That's about 14 per cent lower than now.

The S&P GSCI's five-day slump began on Monday last week and accelerated on Thursday by plunging 6.5 per cent.

Silver led the rout after CME Group, the owner of the Comex exchange, increased the cost of making new speculative positions by 84 per cent in two weeks.

- BLOOMBERG