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Commodities 2017: Macro Events and Tighter Supplies Support Rally


TOM BUTCHER: What major game-changing events have taken place since we last spoke in August (Video: Why Allocate to Commodities)? What is your outlook for 2017?


ROLAND MORRIS: 2016 was an important turning point for the natural resources space and commodities in general. We felt that the first quarter of 2016 marked an important cyclical low for natural resources and the commodities sectors. Obviously, we had an OPEC (Organization of the Petroleum Exporting Countries) agreement, which was somewhat of a surprise. There was also the major surprise of the U.S. presidential election.


Our outlook hasn't changed fundamentally and we think the positive trends in most commodities markets will continue as we enter into 2017. This is our basic fundamental view surrounding what we believe has been a huge reduction in future supply. The story we have been talking about is the significant reduction in investment and production of things, such as energy, and some of the important diversified metals—copper in particular.


While our macro view on tighter supplies hasn’t changed, the OPEC agreement and the election have changed our short-term outlook somewhat significantly. The OPEC agreement directly goes to our view in the energy market, which has been rebalancing, and it is probably in balance now as we speak. But this OPEC agreement to cap production accelerates that process, and we expect that we will start to see a drawdown in global oil supplies rather quickly in this New Year. Tighter supplies will continue to support oil prices. On the other side of the coin, we really do not expect oil prices to appreciate dramatically in 2017 because U.S. producers are starting to increase drilling activity, which should bring on additional U.S. production in the second half of this year, and this should temper the upside potential for energy markets.


It seems that when we think about Donald Trump, it is all pro-growth policies. Investors clearly have changed their outlook on the growth potential of the U.S. There's been a significant jump in consumer and business sentiment, and that really gets to Trump’s pro-growth policies and his views that the economy needs to be deregulated. This is encouraging for business, and the change in sentiment alone could improve the growth outlook. This will help the demand side for commodities and could end up being a significant demand driver.


BUTCHER: Are you speaking about the expectation for increased infrastructure spending?


MORRIS: Yes, that will certainly help at some point. It is one of the concepts behind investors taking a more positive view towards natural resources demand. I think the one clear thing that will happen, which will be very good for the U.S. energy industry, is some relief on the regulatory side as far as permitting for infrastructure, for pipelines and whatnot. That could be a very important development for the entire U.S. energy industry because it could reduce costs. There has been a big roadblock in permitting for needed infrastructure pipelines, which are the safest way to transport energy products. I think it will end up being a fairly good thing, especially for natural gas, in terms of the industry’s ability to move energy where it needs to be, as well as for important pipelines to move oil as we increase our production.


BUTCHER: What do you see as some of the potential headwinds in 2017?


MORRIS: With some of those positive outlooks for global growth and specifically, U.S. growth, come some negative aspects. The strength in the U.S. dollar in the first weeks post-election was dramatic. That, as you know, can act as a headwind for commodity demand. It puts some pressure on emerging markets economies, and that can generate concerns about the growth outlook for emerging markets economies. A strong dollar is also a headwind for gold, and we have seen a big pullback in gold prices since the election. Additionally, the other concern that stronger growth outlooks bring are higher interest rates.


BUTCHER: Would you elaborate on your concerns about higher rates? Does this impact your long-term view?


MORRIS: There is a chance that in 2017 that we get a mismatch between when stimulative policies will impact the U.S. economy and when higher interest rates, which we have already seen, and the stronger U.S. dollar, could dampen economic activity. I do see a possibility of a short-term period in which we experience disappointing U.S. economic growth before the new administration’s pro-growth policies can impact growth, which is more likely to occur in 2018. This is a potential near-term headwind.


Long term, we continue to be very constructive. We think the supply side has been constrained. We do think global growth will continue to chug along, so we are not concerned about the demand side. As we look at it, we think 2016 marked the first year in what could be a multi-year cyclical positive move for the natural resources and commodities sectors.


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