Commodities boosted by bumper US rate cut

By Ole Hansen, Head of Commodity Strategy at Saxo

The commodities sector is heading for a second consecutive weekly gain, and following an early September energy-led slump, the Bloomberg Commodity Total Return Index has recovered strongly to reach a two-month high. The index, which tracks a basket of 24 major commodity futures, trades up 2% on the week (3.2% year-to-date), with all sectors except grains showing a positive performance—not least softs, where raw sugar is heading for the biggest weekly gain in 16 years as traders digest the extent of crop damage from fires and searing heat in top producer Brazil. Developments that has also seen Robusta coffee reach record levels and Arabica a 13 year high.

The energy sector also staged a recovery from an early September slump, with Brent crude's recent slump below USD 70 proving to be relatively short-lived. The market concluded that a sub-70 level combined with hedge funds holding a record weak belief in higher prices of crude and fuel products would require a recession to be justified—a risk this week’s bumper US rate cut helped reduce. At the other end of the scale, we are seeing wheat prices struggle amid harvest pressures and competitively priced Black Sea exports, while a month-long downtrend in EU gas prices continued amid mounting confidence that the region will have sufficient winter supplies due to weak demand and stockpiles approaching capacity.

The Federal Reserve’s long-awaited rate cut cycle began with a bang after the FOMC surprised the markets with a 50 basis point cut while signalling another 50 basis point cut this year, followed by an additional 100 basis points of cuts next year. Fed Chair Jerome Powell used the press conference to signal optimism about the economy, despite signs of a loosening labour market, making it clear that the larger rate cut comes from a position of strength, not weakness. The Fed’s jumbo rate cut clearly signals its intention to support the US economy and guide it towards a soft landing, where inflation is brought under control without triggering a recession.

The different asset classes, including growth and demand-dependent commodities, responded positively to this Goldilocks scenario, with the energy and industrial metal sectors both rallying, while the prospect of lower funding costs—and with that the prospect of increased demand for gold from asset managers via ETFs—helped drive the yellow metal to a fresh record high above USD 2,600, a year-to-date gain of more than 25%. Silver, enjoying multiple support from rising gold, industrial metals, and a softer dollar, recorded an even stronger gain, taking the year-to-date gain close to 30%.

Apart from lower funding costs, the commodities sector has also been supported by continued dollar weakness, with the broad-focused Bloomberg Dollar Index trading lower in seven out of the last eight weeks. Out of 13 major currencies, only the Mexican peso has recorded a loss, with gains being led by the Japanese yen, the Scandies, and the antipodeans (AUD and NZD), while major currencies like the euro and yuan both trade up around 3%, with the latter hitting a 16-month high, thereby making imports cheaper and potentially adding to the current commodities strength.

Gold and especially silver have more upside

Gold’s record-breaking rally continues, now supported by the US rate-cutting cycle, which in the past has led to strong gains in the months that followed. Spot bullion reached another milestone after breaking above USD 2,600, reflecting a year-to-date gain of more than 25%. This surge means a standard 400-troy-ounce gold bar (around 12.4 kilograms or 27.4 pounds), commonly traded internationally and used by central banks, now costs over USD 1 million, up from USD 725,000 last October.

Since then, gold has surged more than USD 800, with only minor corrections during this extended rally—showing strong underlying momentum, driven by FOMO (fear of missing out). Gold’s rise—despite being a ‘dead’ asset that offers no returns beyond price appreciation minus its funding or opportunity costs—reflects a world in imbalance, where investors continue to pay record prices for gold amid multiple drivers from fiscal profligacy, geopolitics, and “de-dollarisation” demand from central banks, to a general safe-haven appeal, topped up with a supportive rate-cutting cycle from the US Federal Reserve, which has reduced the opportunity cost of holding not only gold but commodities in general.

While gold’s new record high has captured most attention, silver has outperformed, delivering an even greater return in 2024. Silver’s dual role as both a precious and industrial metal means its price is influenced by gold, industrial metals, and the dollar. After hitting a decade-high of USD 32.50 in May, silver experienced a deep correction alongside industrial metals due to concerns about Chinese demand. Between May and August, the gold-to-silver ratio widened from 73 ounces of silver per ounce of gold to 90 ounces.

However, a continued gold rally and a recovering industrial metals sector, supported by a weaker dollar, have brought the ratio back below 84, with silver once again outperforming gold. Investors cautious about paying record-high prices for gold may see better value in silver, which remains well below its 2011 record of USD 50. For silver to attract more buyers, a break above the May high at USD 32.50 is needed. Momentum funds currently hold a relatively small speculative long position in silver near the five-year average, compared to gold’s much larger 227k net long position, which is double its five-year 

Crude’s sluggish demand outlook has forced a downward range shift

Brent crude oil’s September slump below USD 70 proved to be relatively short-lived, with the market concluding that a sub-70 level, combined with hedge funds holding a record weak belief in higher prices, would require a recession to be justified. We estimate the likelihood of a US recession in 2025 to be 25%, though the impact of higher interest rates remains uncertain.

However, the combination of robust non-OPEC+ production growth and sluggish demand, especially in China, which has seen its 2024 demand growth slow to a few hundred thousand barrels a day from around 1.3 million barrels per day in 2023, is likely to keep the upside capped in the coming months. Some focus remains on Libya, where prolonged supply disruptions may help tighten the market, and on OPEC+ and whether they will continue to delay a planned production increase, now set for December.

Having spent considerable time this year trading in the USD 80s, we believe these factors point to a Brent crude price stuck in the USD 70s for the foreseeable future, with a geopolitical event or a recovering China being the biggest risks of an upside surprise. The strong recovery this past week had short-covering written all over it—the rally occurred just days after hedge funds had accumulated the first-ever net short held in Brent, gas oil, and NY ULSD (diesel). Large speculators, such as hedge funds, will sell into weakness until the technical and/or fundamental picture changes, as it did this past week. In the short term, we will be watching the USD 75 level in Brent, with a break above potentially signalling fresh buying that may take prices closer to USD 80.

Copper demand on the mend following mid-year slump

Copper prices have stabilised following a mid-year slump that followed a period of strong buying, mostly from speculators looking for higher prices amid rising demand from the energy transition and an expected surge in demand for power from AI-related data centres. The May to August slump was further exacerbated by a continued rise in stocks held at warehouses monitored by the major futures exchanges, most notably in China, which was seen as a sign of sluggish demand, eventually forcing prices lower to levels that by now have started to stimulate demand.

However, in the past three weeks, inventories at warehouses monitored by the three major exchanges in London, Shanghai, and New York have declined to a three-month low—still elevated but moving in the right direction from a price-supportive perspective. In addition, the Chinese yuan has risen to a 16-month high, thereby reducing the cost of importing key raw materials such as industrial metals and crude oil.

With the demand outlook stabilising, a troubled supply side has also received some attention following production downgrades in Chile and Peru, two of the world’s top suppliers. Into the final quarter and beyond, we believe the combination of lower funding costs as the US Federal Reserve cuts rates, the avoidance of a recession in the US, a stabilising growth outlook in China amid government support, and continued demand towards the green transition will help underpin prices, leaving the door open for additional, though not spectacular, gains as seen earlier in 2024.

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