This analysis is by Bloomberg Intelligence Senior Macro Strategist Mike McGlone. It appeared first on the Bloomberg Terminal.
The global economy appears likely to face enduring deflationary fallout from China’s property crisis, the 2022 commodity pump on the back of Russia’s invasion of Ukraine and recession leanings in the US and Europe as most central banks continue tightening. Weakening industrial metals and grain prices show some of the negative effects and isolation of oil’s 3Q spike, which may have implications akin to the rush to the peak in July 2008. Natural gas in 2023 dropping to levels first traded in 1990 may offer guidance for most commodities, particularly if the tilt toward recession doesn’t reverse.
Spiking oil is a GDP pressure factor and may leave gold to do what is has for much of history: outperform most commodities. Like bouncing crude, the very expensive-to-short dollar may roil global economies if it keeps rising.
Rising crude, outlier in commodities, points to global recession
The disparity between spiking crude oil in extreme backwardation vs. plunging natural gas in contango this year may help pave the way toward a deflationary recession in 2024. Bloomberg Economics is leaning that way in the US, and declining industrial metals and agriculture commodities may reflect the global inclination.
Commodities typically go down in recessions
Brent crude has shown a tendency toward lower peaks and troughs since 2008, contrasting with the Bloomberg Commodity Spot Index’s propensity for greater highs and lows. Crude may be set for a bear-market bounce in 3Q, but could become its own worst enemy and take the global economy with it. Spiking oil in 2008 aggravated the great financial crisis, and we see parallels — with some key differences. The producer price index peaked that year at 9.9%, and the June low is minus 3.1%, showing deflationary leanings. In 2007, the US property crisis was evolving and the Fed started easing.
The 2022 commodity high may be enduring
China is facing similar headwinds, and most central banks have tightened in 3Q despite deteriorating growth. Bloomberg Economics has been early, but expects a US recession to begin around year-end, with implications for lower commodity prices.
Lone-wolf crude could disrupt commodities, GDP
Extreme backwardation marked a peak in commodity prices and inflation in 2022, and crude oil may be showing bear market trickle-down implications now. At about 15% below the front future, WTI crude oil one-year back contracts might be guiding the way for prices. Relative to the average of the one-year curves in the Bloomberg Commodity Index, which is about flat, the crude curve is the most backwardated in our database since 2006. Front crude prices are pumped, notably due to supply concerns, which isn’t being endorsed by extreme contango in natural gas.
Last year, most commodities topped out in extreme backwardation. Spiking front crude appears as a lone wolf vs. its own futures curve and other commodities, and that appears unsustainable. Crude is showing economic wrecking-ball tendencies at the end of 3Q.
Global economic-contraction leanings
Steadfast US recession signals from the Conference Board and projections by Bloomberg Economics despite on and off again market fluctuations may play out toward a broad risk-asset decline in 4Q, typical of global economic contractions. China’s property crisis could be as severe as Japan’s about 30 years ago and the US in 2008-09. The European Central Bank was still tightening in 3Q despite shrinking PMIs and retail sales. The Fed has stayed the tightening course in 2023 amid bouncing equities and spiking crude, but the latter has a tendency to pressure global GDP.
Bitcoin up, bonds down may trade places in 2024
The effects of aggressive central-bank moves may be in early days. Our one-year performance scorecard showing risk assets at the top and the Bloomberg US Treasury 20+ index on the bottom, appears more likely to face reversion within the next year.
Industrial metals could show the way vs. crude
The 3Q bounce in crude oil may refuel gold’s tendency to outperform most commodities and risk assets, particularly in recessions. A key question at the end of 3Q is what might reverse the global drift toward economic contraction, and spiking crude is adding pressure. The about 11% drop in the Bloomberg Industrial Metals Subindex Total Return this year to Sept. 28 shows the isolation of crude’s bounce and may be indicative of what to expect in the stock market. It’s rare for base metals to fall and equity prices to rise.
Precious metals may gain vs. energy if recession
This disparity could narrow in 4Q as stocks appear more likely to follow the base metals, as evidenced by a lack of liquidity aid despite the recession tilt. Federal funds futures for January are about 5.45% vs. a 5.33% effective rate. Don’t fight the Fed remains our primary view.
Bloomberg
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