Wall Street analysts bet on another commodity rally before year-end

Commodities have broadly pulled back from their recent peaks, but Wall Street analysts say the fundamentals are pointing to another rally by year-end.

As of Friday, the UBS CMCI (Constant Maturity Commodity Index) had fallen by around 11% from its peak in early June, while performance in July was flat, but was still up 16% year-to-date.

In a research note Friday, UBS Global Wealth Management strategists said the supply-side constraints that underpinned the surge in commodity prices in the first half of the year had taken a backseat to the deteriorating outlook for global economic growth, a strengthening U.S. dollar and China’s housing predicament.

Although commodity prices could fall further in the event of a deep recession for the global economy, UBS GWM Chief Investment Officer Mark Haefele and his team suggested a “soft landing” is now as likely as a pronounced slowdown.

They added that “overly bearish calls on commodity markets do not fully account for supply-side dynamics.”

“In general, commodity supply is constrained due to years of underinvestment — official inventories are low across multiple sectors — and because of weather-related and geopolitical factors. Meanwhile, we see positive demand trends,” Haefele said.

For instance, UBS expects Chinese demand to rebound, with manufacturing and property data indicating that more fiscal stimulus is required. While acknowledging that a policy “bazooka” is unlikely, Haefele suggested more support will be forthcoming from Beijing in the months ahead, which should stabilize demand for commodities such as iron ore and industrial metals.

The bank’s strategists also see talk of a U.S. recession as premature, and felt vindicated by the bumper nonfarm payrolls report published earlier this month.

The U.S. economy added 528,000 jobs in July, well ahead of consensus forecasts, while consumer price inflation slowed, indicating that the Federal Reserve may not have to tighten monetary policy as aggressively as previously expected.

“While growth is slowing, the U.S. economy is also returning to pre-pandemic patterns and
in doing so is experiencing a divergence between goods and services,” Haefele said.

“As manufacturing slows, services are growing. While diverging, the data reflect the normalization of goods and services activity.”

Thirdly, UBS pointed to a likely return of fears about supply shortfalls, with industrial metals and steel at the heart of the new commodity cycle and necessary components in the decarbonization process, rendering them central to the price recovery.

“While this narrative is not new, we believe the world is still not prepared for the transition-related surge in demand; and despite higher prices, a decade of poor returns and environmental, social, and governance (ESG) concerns have curtailed investment in…