China buying, hedge funds help commodity stocks continue rally

Dollar’s decline is spurring entry of funds, investors
Many commodity stocks have surged 25-60 per cent during the first five months of this calendar year.

The major reason is China’s strategic buying and the re-entry of hedge funds and institutional investors in commodities in a big way.

This has led, among other things, to crude oil at a year’s high of $68 a barrel and gold is also close to the year’s high of $1,000 per ounce. Copper and lead are up over 60 per cent in the calendar year.

China’s demand for commodities like metals and even agriculture commodities continues. It has been a big importer of commodities in the first quarter. Demand was so high that the index for freight rates of dry bulk cargo, the Baltic freight index, which reached a nadir at 663 points in December, is now at 3,496 points, mostly on China’s demand.

“The US currency is weakening and China, having trillion-dollar currency reserves in the US dollar, is diversifying its reserves by building up strategic reserves of commodities,” said a senior executive of a leading international credit rating agency.

Of late, hedge funds and institutional investors have also entered commodities in a big way. According to Barclays’ commodity research, “hedge fund exposure to commodities has increased sharply over the past few weeks, and according to data from CFTC, the US futures’ market regulator, increased positions are primarily on the long side.”

Net long (bullish) positions in US commodity futures’ markets has increased above 800,000 lots for the first time since July 2008 (when commodities were at their peak), and net long positions as a percentage of open interest has risen sharply to 12 per cent, the highest in 10 months.

Barclays notes “not only hedge funds, institutional investors, Sovereign Wealth Funds and asset managers alike are going overweight on commodities, too.”

Indeed, earlier this month, Berkshire pension fund made an allocation of 9.2 per cent of their $1.6 bn assets (AUM) into commodities, following which other pension funds in the US are also examining potential opportunities to gain exposure to the asset class, said the report.

The upward move in commodity prices has been discounted in stock prices, as in the past two months, prices of many companies having big commodity play in different sectors have risen by 50 to 100 per cent.

From January, the BSE metal index has gone up by 88 per cent, and the oil and gas index is up by 48 per cent.

Explaining the interest of funds in commodities, Biren Vakil, director, Paradigm commodities, an Ahmedabad-based commodity consultancy firm, says “As the dollar is falling, all are investing in alternative asset classes like commodities” and “A weak dollar actually devalues the wealth of Asian nations that are parked in the dollar, justifying the need to put money in other assets, which China is doing successfully.”