Bears will make money, Bulls will make money, Pigs will get killed

The bull market in commodities, now in its fifth year, has produced a rally not seen in more than five decades. Copper five times over the past five years, gold more than quadrupled and oil tripled

Profiling: Unlike stock market, the commodities market has three main kinds of participants, Arbitrageurs, Speculators and Hedgers. If one has to participate in this market it is important to profile the participant. Internationally, the commodity index funds have done extremely well however, India does not offer any of these fund based solution to the investor class (due to regulatory reason) to participate on the commodities market hence the profiling become all the more important for protecting the interest of the participants.

How do Indians Benefit from Commodities Boom: The Indian market offers two options either participation through futures market or spot market. While cash and carry flourished initially however due to runaway prices, the govt sword and promulgation of Essential Commodities Act keeps hanging against the participants. Agriculture being on the concurrent list and each State having its own Agriculture Produce Marketing Act (APMC), the complications will necessarily evolve in the delivery, which is part and parcel of the spot trade.

Inflation Hedge & Global Indicators: Strong returns in commodities in 2008 are offsetting losses elsewhere for institutional investors’ portfolios and attracting a record level of fresh funds into the asset class. According to bankers in London and New York, fears over rising global inflation, robust fundamentals and the weakness of the dollar are other reasons for the strong interest. With stocks losing money, people had instead been buying bonds and in particular commodities, which have been stratospheric. Traders bought commodities as a hedge against inflation. High commodity prices guarantee upward pressure on inflation. But the slowdown predicted by stocks and bonds reduces commodity demand. So buying commodities to hedge against economic woes looks like a self-defeating strategy.

Volatility and Margins: No wonder, volatile trading conditions have become persistent in the commodity markets; yet activity in this sector is hardly slowing. Most recently inspite of market moving in favour of “longs” the volatility has caused huge margin call resulting in de-leveraging of positions by many. Since participation in commodities futures is leveraged the losses and profits are also leveraged.

Risk Appetite and Portfolio size: While stock market participants can rely on the market “tips”, this market requires deeper understanding of the underlying. Passive investment with small risk capital is possible in stocks however one requires a comparatively larger capital and active tracking of the market.

The success in this market will be in a disciplined approach to balanced portfolio creation with stop loss limits and proper assessment of the portfolio risk. Rather than having targeted prices the participants should have benchmarked profit with stop-losses triggers with unemotional attachment to the positions in the market.

Published in The Times of India, Ahmedabad

Crash in commodities market may be temporary

© Copyright 2000 - 2009 The Hindu Business Line

M.R. Subramani Chennai, March 23

Last week, the commodities market witnessed its steepest weekly fall in the last five decades. Gold fell eight per cent, crude dropped 6.35 per cent and wheat prices in the US market slipped below the psychological mark of $10 a bushel. Most of the commodities that peaked late last month or early this month have come off with soft ones such as soyabean, wheat and crude palm oil slipping by over 20 per cent.

Does the fall signify the end of commodities boom? Not really, say analysts and experts. The trend actually is a fallout of the crash in equity markets. Funds are booking their profits in commodities so that they will have the necessary liquidity and can overcome any loss in equities, says Mr V. Shanmugham, Chief Economist of the Multi Commodity Exchange.

A shake-out

“It is also more of a long overdue correction,” he says. “The sell-out in the commodities is to add liquidity and this is seen as a shake-out. This will eliminate small players in the market, who would be forced to de-hedge their positions,” says Mr Shyamal Gupta, Head (Institutional Business) of Kotak Commodity Services Ltd. Analysts see the current phase as a temporary one where the commodities could see a fall for the time being, consolidate, and then rebound.

“What we are witnessing is a new orbital in commodities. The prices will recover and the players are likely to take them to a new level,” said Mr Gupta.

Recession fears

“Currently, fears of recession gripping the US are mainly driving crude lower. As a result, other commodities such as soyabean, crude palm oil and corn – all seen as alternative sources of crude oil – have crashed. Vegetable oils had found new peak levels as they were diverted for bio-fuels. Diversion of acreage to crops such as corn, besides the vagaries of weather, saw the wheat counter on boil.

“In between, fears of inflation and economic slowdown have seen the funds and players buy into gold. “Physical buying will have to be at higher levels after the markets rebound from this fall. Soft commodities will touch new highs,” said Mr Gupta. “Gold, on the other hand, belongs to asset class. Its glitter will remain and demand growth will keep crude firm,” he says. Increasing demand, especially from emerging nations, is seen driving the prices of commodities further up.

And Mr Gupta sums up the likely trend saying: “Commodities is the only avenue for funds to make money for sometime to come.”