A week ago Friday, we wrote that demand shocks tend to lead to immediate sharp corrections in commodity prices that ultimately find their bottom within about 2 months and are followed by strong multi-month recoveries. Historically, these types of sell-offs offer excellent tactical opportunities to initiate positions ( Commodity Demand Shocks ).
This past week the equity markets declined -11.5% while commodity markets (the “RICI®”) declined somewhat less at – 8.8%. The decline in commodities from the Coronavirus has thus far followed a very similar pattern to two previous demand shocks: the breakout of SARS and the 9/11 terrorist attacks. In both cases, there was a sharp correction which started in the energy sector that led to an initial bottom, a multi-day rebound and then a final bottom a few weeks later. With the SARs break out, the top to final bottom lasted 52 days with a correction of 13.2%. The correction from 9/10/11 as a result of the 9/11 terrorist attacks lasted 65 days with a 17.2% correction. Both times commodities rallied strongly from those lows to full recoveries in 4 to 4 ½ months and then continued higher for several months thereafter.
The sell-off from the Coronavirus has now gone on for 55 days (through Friday) with a total top to bottom decline of approximately 15.02%; also led by the decline in energy prices*! We believe commodity prices have now entered deeply oversold levels and, although it is difficult to know when the correction has ended, the risk / reward has become significantly more favorable.
*Sector performance since January 6th – Energy – 26.9% Agriculture – 6.8% Metals – 6.4%
A Global Demand-Based Portfolio
The RICI® is a composite, US dollar-based, total return index methodology. It represents the value of a basket of commodities consumed in the global economy, ranging from Agricultural to Energy and Metal products. The Index’s weights attempt to balance consumption patterns worldwide (in developed and developing countries) and specific contract liquidity. The value of this basket is tracked via futures contracts on 38 different exchange-traded physical commodities, quoted in four different currencies, listed on nine exchanges in four countries.