Oil caught up in early commodity supercycle fervor

The more than 30% rise in Brent crude oil prices since November has caught many players in global commodity markets off guard.

But while optimism around COVID-19 vaccines has supported the demand outlook and OPEC+ has been managing output, few saw the surge as warranted with the world still in the midst of a pandemic.

The rally in the broad spectrum of commodities assessed by S&P Global Platts has some analysts suggesting oil prices may be in the slipstream of a potential commodity supercycle -– a protracted rise in key prices.

Key industrial metals copper and iron ore have hit close to eight- and nine-year year highs, respectively, and JKM LNG prices are at unprecedented levels, reviving the prospect of a supercycle driven by economic stimulus spending, Chinese demand and a weaker dollar. Dated Brent is hovering close to $55/b.

Some $13 trillion has been spent on fiscal packages around the globe already and in 2020 there was a strong inverse correlation -- bar a brief spell at the start of the pandemic -- between the US currency and the S&P GSCI, a benchmark for investment in the commodity market.

A weaker dollar makes commodities cheaper for holders of other currencies.

"We do seem to be entering into somewhat of a commodities supercycle, but this is the more the consequence of supply and demand factors aligning temporarily resulting in significant spikes in prices" said Chris Midgley, head of S&P Global Platts Analytics.

"A key driving factor is the healthy growth being observed in the East led by China where, unlike the West, we see demand has already recovered to above 2020 levels," Midgley said.

Cold weather, stock building and and infrastructure boom has seen strong buying across commodities from agriculture for food security, iron ore for steel production and construction, petrochemicals, LNG and oil.

Each individual commodity has its own story to tell and while oil has been dragged back by moribund jet fuel demand, it has been propelled higher by the 1 million b/d production cut by Saudi Arabia on top of OPEC+ reductions and improvements in global mobility.

Biden time

Hopes of a further $1.9 trillion relief plan from the new US administration is further lifting oil market sentiment.

"The election of Joe Biden as the next US president has also given the [oil] price a non-quantifiable boost from investors and speculators seeking protection against reflation and with that the prospect for a weaker dollar," said Ole Hansen, head of commodity strategy at Saxo Bank.

"With crude oil together with gold being two of the most liquid commodity markets the reflation demand often tends to be concentrated in these two markets," Hansen said.

Oil demand is relatively price inelastic and much more responsive to shifts in trend regarding income—and by extension—fiscal stimulus, tax incentives and other economic drivers. As such, the pace of economic recovery remains critical.

The global economy has been recovering from its lowest point, seen last April, but is not likely to reach 2019 levels before the third quarter of 2021.

Supercycle signs

Goldman Sachs global head of commodity research, Jeff Currie, who called the first supercycle in the 2000s, said similar forces were at play with "structural underinvestment in the old economy" and supply shortages are so severe "every single commodity market with the exception of wheat is in a deficit today" despite weak COVID-19-induced demand weakness.

While metal prices were turbocharged last time round by industrialization and urbanization in China in particular, this time the 'green' revolution -- that heavyweights like the US and China may be starting to embrace –- could be main driver of the long-term commodity bull run.

Currie said with oil that capital expenditure had fallen an unprecedented 40% in the first half of 2020 and noted that even oil demand would be boosted by spending on the energy transition, due to the volume of oil consumed in the course of green energy infrastructure projects.

Goldman Sachs says that a new era of policies aimed at social need will likely create a cyclically stronger, more commodity-intensive economic growth.

Related infographic: A new supercycle? Why commodities prices are surging in 2021

Future spike?

While many analysts are still cautioning against a rapid rise in oil prices, there is a similar consensus growing that there is a risk of a price spike further out, given the billions of dollars in upstream spending cuts and the possibility that US shale struggles as a marginal producer to plug shortfalls quickly.

US oil production peaked at around 13 million b/d in late 2019 and has since fallen to around 11 million b/d.

The International Energy Forum said in December the oil and gas industry will have to overcome its pandemic-induced retrenchment and boost investment by at least 25% annually over the next three years to prevent a supply crunch that could send prices skyrocketing.

"With global oil demand still running close to 6 million barrels/day below pre-coronavirus levels we do not see a material upside risk to oil prices before 2022 or even 2023, at which point the dramatic cut in capex from global oil majors may start to impact to ability to find new barrels," Hansen said.

Platts Analytics sees Dated Brent prices in the low to mid-$50s/b for much of 2021, with stronger support in the second half of the year.

However, even the most ardent commodity bull will be weary that the pandemic has still got its own cycle to finish.