John Smiles Qualified Financial Advisor
Why did commodities do so well in 2016?
After five years of negative returns, reaching a decade low in January 2016, commodity-related investments outperformed the broader equity and fixed income markets in 2016. The strong outperformance was driven by several factors. Slightly reduced concerns around the Chinese economic outlook, diminishing expectations of US interest rate rises and encouraging signs on the supply and demand fronts have all contributed to a positive backdrop for the sector.
The Chinese government’s stimulus efforts resulted in improved macroeconomic data boosting many industrial metals and bulk commodities prices. Iron-ore gained over 30% as Chinese steel demand increased and the price of coking coal increased by more than 130% in 2016.
A fall in production of commodities together with reduced capital investment over the past five years resulted in a supply glut and a consequent increase in prices.
Gold was the star performer driven by increased investor demand for “safe-haven” assets due to uncertainties around the global economy, political events, including the Brexit referendum and increased probability of US interest rates remaining unchanged as opposed to the four rate hikes priced in by the market for 2016. The demand for gold equities as a “safe-haven” and as a diversifier is explained by the low or negative yields on government bonds where investors traditionally turn to for their safe-haven qualities. However, following Donal Trump’s election as President, gold fell in value in the last two months of the year to finish 2016 at $1,152 per oz.
The price of oil also fell to multi-year lows in January 2016 before recovering on the back of the production freeze announced by OPEC in February.
Several elements on both the demand and supply fronts have contributed to the recovery of the sector in 2016. US oil production has significantly declined; the low oil price has also put pressure on the other non-OPEC producers, reflecting lower investment in projects; supply disruptions in Canada and Nigeria have been a catalyst behind the recovery in price.
The recent announcement by OPEC to finally cut production in a marked shift in policy provided a further boost to the oil price.