Global commodities index hits 13 year low
The Thomson Reuters Core Commodities CRB Index tracks a basket of 19 commonly used commodities, segmented as follows:
- 39% energy, mainly crude oil, heating oil, gasoline and natural gas
- 41% agricultural products, such as wheat, corn, soybeans, hogs and cattle
- 7% precious metals which includes gold and silver
- 13% base and industrial metals, such as aluminum, nickel and copper.
Founded in 1957, the index provides a useful indicator of how overall commodities are fairing and also helps gauge inflation at the producer's level. Crude oil is by far the biggest contributor to the index, making up 23% of the total.
Commodities peaked in 2008 and fell through the floor during the financial crisis of 2009. Governments around the world then began an unprecedented stimulus program, pumping trillions into world economies in their attempt to shock the dying patient back to life. It worked it the short term, and commodity prices seemed to recover at first. After peaking in 2011, the index then began sliding again and recently reached lows not seen since early 2002.
It's no secret that energy prices have sunk to new lows this week. West Texas Intermediate briefly broke below $40 a barrel on Friday on continued concerns of oversupply in the oil markets. Natural gas prices are forever stuck below $3 per million Btu thanks to the gas fracking revolution that has kept supplies well above demand in North America. But oversupply is just part of the problem.
While oversupply is often blamed for the collapse in energy prices, the real problem is weak demand. As emerging economies began growing aggressively in 2004, world demand for commodities grew along with it, causing an imbalance which lead to rising commodity prices through 2008.
As commodity prices rose, producers responded in kind by ramping up production, improving productivity and aggressively seeking new technologies to mine more, pump more and grow more commodities.
But in the past few years, it's becoming increasingly evident that those same emerging markets (particularly China) aren't actually growing as fast as their governments would suggest. Sales of basic raw materials, including iron ore and coal have fallen off a cliff. Stockpiles of industrial metals such as aluminum and copper have reached unprecedented levels. Big commodity producers such as Australia have been sounding the alarm bells that all is not well in Asian markets, who aren't buying their commodities as feverishly as they used to.
The problem is that world commodity markets are structured around the rapidly expanding economies of China, Brazil and Russia and mature economies (like Europe and the US) nicely humming along at 3 to 4% growth.
That may have been the case in 2007 but that isn't the world we live in anymore. Brazil and Russia are stuck in deep recessions. Europe, Japan and the US will be lucky to squeak out 1 to 2% growth this year. The world's second largest economy, China, has apparently stalled out. Although no one really knows what China's growth rate is, world financial markets are starting to believe that number might be something close to zero, far below the advertised growth rate of 7%. Since China consumes 40% of the world's commodities, that's a big problem for all commodity producers.
So the next time you read a headline on growing US oil production and Iran flooding the oil markets, remember that supply is not the root cause of the problem. Commodities are in free-fall because of weak demand growth, and this is affecting all commodities, not just energy. And weak demand is actually far more difficult to solve than oversupply, and likely won't be fixed anytime in the near future.