NEW DELHI: Metals and mining stocks have made a lot of money in the past one year, riding on ever increasing spot prices in the international market. Now oil and gas prices have also started surging. This has convinced many in the market that commodities are in a supercycle.
However, one domestic mutual fund house believes maybe investors are looking at it from a narrow viewpoint. It argues that in a 50-year landscape, commodities are far from being in a supercycle.
“Supercycle in commodities is a term that has gone viral globally with commodities rallying to multi-year highs! But when commodities are priced in stocks, the commodity-to-stocks ratio continues to remain at 50-year low,” DSP Mutual Fund said in a note.
The fund house plotted the ratio of S&P Goldman Sachs Commodity Index (TRI) to US S&P 500 Largecap Index to arrive at this conclusion.
“This means commodities have just reflated to the new money supply increase and are still not in a supercycle. Is this tech disruption? Or a stock bubble?,” DSP Mutual Fund asked.
Whatever your answer to this question is, it is true that the commodity bloc has delivered superlative returns.
In the last one year, Nifty Metal Index has rallied over 150 per cent. Now, thanks to rising crude and gas prices, related stocks have also started rallying. But, DSP says this is nothing compared with what the metal sector made in earlier rallies.
The massive rally “meant obvious comparisons with their best-ever move witnessed during the 2004-08 cycle, when these stocks created huge wealth. But the narrative around a similar supercycle is yet to take hold as they face a tough resistance at the massive historical performance hurdle,” the money manager said.
“The probability of metal stocks underperforming is higher for now,” it said.
The problem in China, which is the largest consumer and producer of most commodities, will also reflect in the commodity prices now. Its real estate sector is a big commodity and resources guzzler. The recent issues with Evergrande and scores of regulatory whips can lead to further slowdown in the Chinese economy.
“China is undergoing a slowdown. Commodities usually follow what China does. The probability that commodities may fall with a slowing China is high,” DSP said.
Another risk factor, it said, is the rising US dollar. The US Dollar Index and risk assets, including commodities, move in the opposite direction. “The US dollar has strengthened to new highs for 2021 while commodities remain near highs. This is a red flag for the commodity market,” it added.
Expect a bit of tantrum
There is growing consensus on Dalal Street that the inevitable tapering by the US Federal Reserve may not induce a tantrum as seen during 2013, as the market has more or less absorbed the impact. But DSP Mutual Fund warns that there will be volatility.
The US Federal Reserve has been buying $120 billion worth of bonds, more than offsetting the treasury issuances since the pandemic began. It has been buying $80 billion in treasury securities and $40 billion in mortgage debt. This has supported the market for the last 18 months.
Simply speaking, the US Federal Reserve has been buying the bonds that the US government is issuing, thereby creating money out of thin air. This money has been used for stimulus. No stimulus, no money printing means markets are on their own. That means no free lunch anymore.
“Once the US Fed begins reducing the size of the stimulus, it will coincide with no fresh stimulus from the US government. This leaves the US economy and global flows on their own with reduced support. Markets can see a spike in volatility once the actual taper begins,” DSP said.