Will 2016 Be Remembered As The ‘Commodity Crunch’?

Will things get so bad for commodities that it is viewed as the credit crunch part 2?

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

2016 has thus far been a relatively disappointing year for most investors. After all, the FTSE 100 has been exceptionally volatile and has fallen since the turn of the year. And with US interest rates having risen in December, it signals a shift in monetary policy which brings with it a long list of uncertainties regarding long term growth rates for the US and global economies.

However, the major story of 2016 could prove to be the continued collapse in commodity prices. While 2015 was hugely disappointing for the prices of oil, iron ore and various other commodities, things could get much worse in 2016. Crude oil is now priced at just over $30 per barrel and this is its lowest level since 2003. Worse still, its price could fall considerably lower due to a continuing supply/demand imbalance which is seeing producers maintain and even increase production due to falling cost curves and an attempt to hurt US shale producers in the case of Saudi Arabia.

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Likewise, falling demand from China for iron ore coupled with increased supply means that its price looks set to remain very weak during 2016 even though it has staged a short term rally back up to above $40 per tonne. Unless one of these two factors changes dramatically then iron ore’s price could fall much lower.

Undoubtedly, there are parallels which can be drawn with the credit crunch of 2008/09. It started with a huge amount of volatility, with investors gradually becoming increasingly aware of the potential for a global recession. And just when things felt as though they could not get any worse, they did and share prices collapsed under the weight of doubts surrounding the capitalisation of major banks and financial institutions, as well as a number of banks requiring state aid just to stay in business.

However bad things get for the commodity sector, though, credit crunch part 2 is highly unlikely. For starters, the global banking system is in a much stronger state than it was a decade ago and even if the prices of commodities do collapse yet further then it should not have a devastating impact on other sectors. Certainly, it will cause pain and losses for the companies, investors and other stakeholders in the commodity industry, but a low oil or iron ore price is highly unlikely to prompt a global recession.

Therefore, while the commodity price falls may seem to be a major problem, it seems likely that investors, companies and the entire world economy will simply adjust and adapt to a new era. This may take time to achieve and there will challenges to face in the coming months as the supply/demand imbalance looks set to grow. However, the world does not appear to be facing the same level of danger as during the credit crunch, which means that 2016 may be remembered for something other than being the year of the ‘commodity crunch’.

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