We expect the broad commodity rally that saw the Bloomberg Commodity Index rise by 10% during the last quarter will extend further into 2021. Driven by multiple tailwinds from tightening supply, a global market flushed with cash driving speculation across markets and increased demand for inflation hedges. Adding to this, the prospect for a weaker dollar, a vaccine-led recovery in global demand as well as emerging weather worries and the components for another commodity supercycle have started to emerge.   

All of this during a time when the pandemic is still raging across many countries, especially in winter-hit regions across the northern hemisphere where the prospect for improvement - vaccine or not – is unlikely to occur until warmer weather arrives in March and April. While the rally may pause until the vaccine rollout gathers momentum, the market will have to rely on continued investment demand being strong enough to keep markets supported during the coming months when the negative impact of lockdowns and reduced mobility will be the greatest.

Investment demand was on clear display during the first full week of trading with the US stock market racing higher to reach a fresh record high, led by so-called ‘bubble stocks’ within technology and green stocks following the Democratic majority in US Congress. Bitcoin, another bubble candidate, surged past $40,000 as the alternative investment continues to become more mainstream with institutional demand on the rise.

Speculators have responded very forcefully to the improved sentiment during the past six months and as we enter 2021, they hold a total net long across 24 major commodity futures of 2.5 million lots, representing a nominal value of $125 billion. While the two previous peaks in 2017 and 2018 were primarily led by the crude oil market, the chart below shows how bullish bets have been spread out more evenly between the three major sectors of energy, metals and agriculture.

Overall, the biggest bets are held in crude oil with the combined 614k lots long in WTI and Brent representing a nominal value of $30 billion, gold's 137k lots long at a value of $26 billion and finally the soybean complex where the netlong in soybeans, meal and oil reached 399k lots or $19 billion nominal. The netlong in crude oil and gold, the two biggest contracts in terms of exposure, remains well below their previous peaks which for crude oil was the 1.1 million lots reached in March 2018 and 292k lots in gold that was reached in September 2019.

The reflation trade and with that the need to protect portfolios against rising inflation also received an additional boost after the US Democratic Party won both seats in the Georgia run-off elections. Thereby securing a Senate majority which paves the way for President-elect Biden’s plan for additional stimulus and spending to support an economy reeling from the pandemic and in order to patch up a very divided nation. These developments resulted in an unwelcomed rise in US government bond yields for precious metals. The rise above 1% in US ten-year yields, which had been the ceiling throughout the second half of 2020, helped reverse early gains in gold and silver as the dollar responded to these developments by attracting short covering to move higher.

This is a catch-22 for precious metals, with rising inflation expectations inadvertently driving the dollar higher in response to rising yields which may tamper gold’s short-term prospects. Despite this, we remain bullish and based on our forecast for gold to reach $2200/oz; silver’s high beta should encourage continued outperformance with the gold-silver ratio heading towards the low 60’s during 2021, thereby driving the price of silver towards $35/oz.

HG copper, meanwhile, rolled over the strong bid from December to record its best week since July 2020 on a combination of speculative reflation and underlying physical demand. China, the world’s biggest consumer, has been the main driver behind the 75% rally since the low last March and the expectation now is that a vaccine-led global recovery will fuel demand beyond China. Not least as the de-carbonization focus accelerates the electrification process thereby increasing demand for copper due its use as a conductor of heat and electricity. Following the break above $3.65/lb on HG copper, it is difficult to find much in terms of resistance before $4.0/lb.

Crude oil’s impressive rally since the first vaccine announcements in early November extended into the first week of trading with Brent crude oil breaking above $55/b for the first time since last February. This after Opec+ faced with an uncertain short-term demand outlook decided to rollover current production levels until March. Topping up the agreement was the surprise unilateral production cut announced by Saudi Arabia, which increasingly is being seen as the guardian of the oil market. The Saudis most likely concluded that the next few months could see the current weakness in Western world fuel demand spread to Asia where infections are rising quickly.

With this in mind and from a current fundamental perspective, we remain skeptical about crude oil’s ability to forge much higher at this stage. Momentum however remains strong and with this in mind the price can easily reach levels that may otherwise be difficult to justify at this stage of the recovery. We see Brent trade above $60/b later in the when global fuel demand recovers further and Opec and Non-Opec spare capacity, currently above 7 million barrels/day, start to reduce through additional Opec+ led production hikes.

About the author

Ole Hansen is Head of Commodity Strategy at Saxo Bank