Going short gold was the top commodity investment pick for the next 12 months by two top-ranked analysts at the recent World Commodities Week conference in London.
There is nothing wrong with this view as there are solid reasons to believe the precious metal may decline further, such as the likely scaling back of quantitative easing in the US and a generally more positive global economic outlook.
But it struck me that if the best investment in the near term is to be short something that has already shed 21 per cent of its value so far this year, this is a sad reflection of the overall state of the market for commodities.
Surely there has to be some better bets in commodities, both from the short side and from the more traditional long strategy that is the mandate of many pension funds that are most likely currently scratching their heads and wondering if they should invest in commodities at all.
It’s not been a great year to be investing in commodities using a long-only, buy and hold strategy, with the S&P GSCI index down 1.2 per cent and the DJ-UBS down 7.4 per cent so far.
The S&P GSCI has a higher energy component, which has kept its returns near par mainly as a result of the ongoing risk premium in the price of oil due to the threat of disruptions from Middle East unrest.
While Brent crude, currently around $110 (Dh404) a barrel, is more or less near its starting point for the year, it appears better opportunities may exist in trading the crack spreads for various oil products in Asia.
It has been profitable for many years for Asian-based refiners to make diesel and ship it to Europe, which is structurally short of the fuel that powers most of its vehicles.
However, a raft of new refineries in Asia, coupled with rising exports of US and Russian diesel, as well as soft economic growth in Europe, is undermining this trade.
The Singapore gasoil crack, which compares the price of gasoil to Dubai crude, was $17.04 a barrel on October 18, down 10 per cent since the beginning of 2013. Gasoil is the broad term for middle distillates such as diesel and kerosene.
Part of this can be explained by slower economic growth, but it is also likely that increased supplies of diesel are crimping refining profits.
The 400,000 barrels per day (bpd) export-orientated Jubail refinery in Saudi Arabia started shipping cargoes in September, adding to regional supplies.
Chinese refining capacity is likely to rise by 690,000 bpd in 2013, with the bulk coming online in the fourth quarter.
Refining capacity expansion is running ahead of domestic demand growth, resulting in more fuel being available for export. Chinese diesel exports were a net 46,000 bpd in the first eight months of 2013, a turnaround from net imports of 13,200 bpd over the same period in 2012.
US exports of diesel surged to 1.38 million bpd in July, a record high, while Russia is also increasing investment in refinery upgrades in order to boost exports of refined products.
Russia’s diesel shipments could double from August’s level around 717,000 bpd within the next five years. This diesel flooding into Europe from the US, Russia and the Middle East raises the risks for Asian refiners and will put downward pressure on cracks.
Gasoline in Asia may provide a template for where the gasoil crack could head. The Singapore margin for 92-octane gasoline over Brent dropped to $2.74 a barrel on October 18, down 72 per cent since the start of the year.
It has already responded to a more than doubling of Chinese exports to 113,000 bpd in the first eight months of the year, as well as cargoes coming to Asia from other regions as the US reduces imports.
For investors who cannot place short trades, there are still some commodities that may offer value, such as nickel and tin. For these metals any long position is founded on the threat to supply from Indonesia’s plans to ban the export of unrefined ores from next year.
It’s still no means certain that a full ban will be implemented, but the risks are that some action is taken, cutting exports from the Southeast Asian nation, which supplies about a quarter of the world’s tin and is the top nickel exporter.
London benchmark nickel is down 16.7 per cent so far this year to near four-year lows even though China’s imports have jumped 10 per cent in the year to August.
London tin has fared better, but is still down 2.7 per cent for the first eight months even though China’s imports have leapt by 152 per cent.
What has been happening is that major buyers, such as China, have stocked up on nickel and are waiting to see what Indonesia actually does come January next year.
The tin situation is being complicated by new rules in Indonesia to force the use of a local exchange before the metal is exported.
This cut exports by 90 per cent in September and buyers still appear reluctant to join the Indonesian Commodity and Derivative Exchange, the only approved exchange for tin trading.
The market is so far taking the view that the Indonesian authorities will back down, and while they may, they may also stick to their guns, or not back down as much as the market expects.
Turning back to the bigger picture of commodity investments, it’s clear it’s become much harder to find consistent returns.
This was the main complaint of fund managers at the World Commodities Week, many of whom questioned whether they needed to allocate any of the portfolio towards what they see as an increasingly difficult asset class.