Commodity shakeout emboldens risk-seeking investors

LONDON Fri Apr 26, 2013 6:06pm IST

A shop attendant carries a tray of gold necklaces at a jewellery store in Singapore September 18, 2008. REUTERS/Vivek Prakash/Files

A shop attendant carries a tray of gold necklaces at a jewellery store in Singapore September 18, 2008.

Credit: Reuters/Vivek Prakash/Files

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LONDON (Reuters) - This month's plunge in commodities may reinforce a benign growth outlook that will encourage investors to keep taking on risks rather than signalling an imminent collapse in the global economy.

Although the speed and scale of the fall has raised eyebrows, it may be that the world is simply entering a seasonal soft patch, as it did last year. And there are hardly any signs of a major investment shift away from risky assets.

If anything, the sell-off may work in favour of investors who like riskier assets, as cheaper raw materials could allow major central banks such as the Federal Reserve and the Bank of Japan to carry on pumping cash without stoking inflation.

"General weakness in commodities reflects what we know already," said Alan Higgins, head of investment strategy at Coutts. "You can turn it around to think it may be very positive. Weaker commodity prices are great if you are industrial companies. Lower oil is like a tax cut."

MONETARY EFFECTS

Commodities are one of the worst performing assets this year, with the 19-commodity Thomson Reuters-Jefferies CRB index .TRJCRB falling more than 6 percent in the space of just a few weeks to hit a 9-1/2 month low last week. Gold has taken an even bigger plunge.

But the picture may be somewhat distorted because commodity prices are dollar-based and the U.S. currency has been rallying. (link.reuters.com/xyd67t)

One way to gauge the commodity moves is to measure oil prices in gold. Even after this month's gyrations, an ounce of gold currently buys 15.8 barrels of oil, near the long-term average since 1960 of around 15.

A steady or higher gold/oil ratio has generally been consistent with the economic expansions the world has observed in the past 50 years.

If global growth is about to take a tumble, it also looks odd that world stocks hit a near-three-year high in March, and that investors are pulling tens of billions of dollars out of low-risk money market funds.

"The dynamics for the yen is very yen-negative because the BOJ is printing so much money," said Mike Howell, managing director of CrossBorder Capital. "So it's not the economy (hitting commodities) but it's purely monetary effects from the United States and Japan."

SWEET SPOT

The dollar has risen 15 percent against the yen this year after Japanese Prime Minister Shinzo Abe kicked off aggressive reflationary policies. The BOJ now plans to pump about $1.4 trillion into the economy and double its monetary base by the end of next year in a radical policy to boost growth.

The global economy is still expected to grow 3.3 percent this year, although it was downgraded from an earlier forecast. There have been concerns that growth in China may moderate but it is still expected to expand at a healthy rate of 8 percent.

"We're in slow global growth but equities remain in a sweet spot because of growing income needs and the fact that earnings are holding up," said Higgins at Coutts.

"I'm not surprised if we have a flat to down market over the summer but you have to see it through."

In 2012, the benchmark MSCI world equity index enjoyed strong gains in the first three months, before losing more than 10 percent towards the middle of the year. The index still ended the year with 13 percent-plus gains.

Weaker commodity prices may also help European central banks to ease interest rates further, providing a generally favourable backdrop for risk-seeking investors.

Oil prices are now around 10 percent below their peaks of last August.

Credit Suisse estimates lower oil prices may push the euro zone's headline inflation to as low as 1 percent later this year from the current 1.7 percent. That is well below the European Central Bank's target of close to, but not above, 2 percent.

"That raises the possibility that policy from both the Bank of England and European Central Bank could be more expansionary than would otherwise have been the case," CS said in a note. (Editing by Catherine Evans)

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