Commodities supported by rising China demand, tight global supply

After a weak first quarter, the commodity market has picked up some tailwinds this month on signs of strengthening demand from China and as ongoing global supply-side issues persist. The Bloomberg Commodity Index posted its longest streak of gains since March 2022 earlier this week, rising for a seventh straight session on Tuesday after China reported that its economy grew at its fastest pace in a year in the first quarter. Th UBS CMCI Composite USD Index also rose that same day for a sixth consecutive session.

But although both indexes ended their rising streak on Wednesday, and have gained only marginally this year due to concerns of a global economic slowdown and the recent turmoil in the US and European banking sectors, we believe the structural case for exposure to broad commodities remains intact.

Demand from China is rising as its economic recovery gains traction.
Commodities demand from China is on the rise as its economic recovery gains momentum after three years of zero-COVID policies. Gross domestic product grew by 4.5% year-over-year in the first quarter from 2.9% in the previous quarter, beating market consensus forecasts for 4%. In our view, the 1Q recovery momentum was stronger and faster than expected, prompting us to raise our full-year 2023 GDP forecast for China to at least 5.7%. This augurs well for the outlook in crude, base metals, and industrial metals, in our view.

Indeed, improved domestic mobility and travel in the first quarter have already led to a notable rise in oil demand from China. According to data from the National Bureau of Statistics, Chinese oil refinery throughput rose 8.8% y/y to a record high of 63.9 million tonnes in March, bringing 1Q throughput to 179.3 million tonnes, up 5.2% y/y.

We expect the recovery in Chinese demand to lift global oil demand to a record high this year. Meanwhile, OPEC+ production cuts from May onwards should tighten the oil market further. Therefore, we continue to expect oil prices to climb toward USD 100/bbl over the coming quarters due to the supply-demand imbalance.

Industrial and base metals are also likely to receive tailwinds from China’s recovery.
Aside from oil, China’s economic recovery is also likely to lend tailwinds to commodities like industrial and base metals. China’s fixed asset infrastructure and manufacturing investments rose 8.8% y/y and 7% y/y, respectively, last quarter, NBS data showed this week.

Property sales also turned positive for the first time since mid-2021. While new starts remain weak, seasonally adjusted starts and sales were stronger compared to 2H22. We expect property sales and starts to continue to recover in 2H23. This, along with a sustained recovery in China’s infrastructure activity, should boost demand for metals and materials this year, including copper.

As supply balances are set eto remain tight for most metals, while exchange inventories are likely to remain under downward pressure this year, we expect prices to continue to firm in the coming quarters.

Weather and geopolitical risks have raised concerns over agriculture.
The probability of an El Niño weather event this year has risen to 60%. Historically, this event has adversely affected the harvest yields for cocoa, corn, palm oil, rice, and wheat.

Separately, the Ukraine Black Sea grain deal is set to expire on 18 May, and it remains unclear whether it will be extended as Russia claimed that a separate deal meant to ease its own agricultural and fertilizer exports has not been upheld.

So, we continue to believe that the structural case for exposure to broad commodities remains intact and we recommend an active investment approach. We see total returns of 20% on the CMCI Index over the next 12 months. We are also most preferred on gold and we recommend holding it as a portfolio hedge in the current uncertain times. We forecast gold prices to reach USD 2,200/oz by March 2024