CPM Group sees commodities recovering – eventually

New York City-based CPM Group is looking beyond the crashing commodities market to a point where a recovery will begin. CPM says that the market will recover, and that when the recovery comes, it could be sharp. The consultancy believes that the smoke hanging over the market will clear within the next six months, and this will help clarify the direction that the market will take for the next two to five years.

Currently the market is plagued by uncertainty about demand, the financing of future supply, and global economic and political conditions. By April, trends driving commodities market fundamentals will have become apparent, including fabrication demand, investment demand, and supply.

Fabrication demand has been weakening recently. By April there may be signs that the U.S. and global economies are bottoming out and moving toward recovery. CPM is bullish on that phase, saying that demand for many commodities, including base metal and energy, could hold up at better-than-expected levels, so it is likely to recover more forcefully than expected. This is because demand has been dampened down by recession, and deferred, but not destroyed.

Demand for commodities will be robust because demand for final goods and services will remain strong globally in the long run. Underlying this demand is the worldwide move toward modernization and greater consumption of housing, autos, consumer durables and services. This trend is stronger on a long-term basis, beyond the next few quarters, than the present consensus market view. In other words, fabrication demand is more durable than what is currently believed.

Turning to investment demand, CPM acknowledges that many commodity investors have cashed out and are sitting on the sidelines. However, investment demand has not entirely disappeared, and eventually commodity investors will return to the market.

Turning to the supply side from the demand side, CPM sees supply as being constrained by low prices and the dearth of project financing. The supply side has responded slowly in recent years to higher commodity prices and higher commodity demand. It will be even slower now that financing for many projects has dried up. Eventually, financing will become available again, but it will be more expensive and harder to obtain, slowing down supply response and maintaining tight supply-demand balances.

CPM cites forecasts by economists that the recession will last 2-3 quarters, into the second quarter of 2009, with recovery starting in the second half of 2009. Although confidence is not seen as returning to financial markets by April, the financial rescue measures by governments should bear fruit by then.

Political uncertainty also affects markets, and CPM believes that the next six months will resolve a number of political issues weighing on markets. The uncertainty around the new U.S. administration will be resolved by April, as political and economic policies of the new administration will become clear by then. Another political uncertainty is the direction that the Middle East will take toward war or peace. It could go either way, but CPM believes that by April it will become clearer.

Political conditions in Russia and former Soviet republics became unsettled this year, and by the second quarter of 2009 it will become more apparent where things are headed. There are other countries where political conditions are fluid, such as Pakistan, China, North Korea and Venezuela, and CPM anticipates that conditions in many of these countries will become more settled over the next six months. This will increase predictability and allow more confident investment decisions.

The conclusion that CPM draws is that, although timing remains uncertain, the commodities market will eventually rebound, and when it does, the change in sentiment could be rapid, particularly for base metals and energy. This is because there is a lot of money sitting on the sidelines, and it will be deployed once owners’ confidence is restored.

One comment that can be made about CPM’s forecast is that not all economists agree that the recession will last only 6-9 months. For example, economists from National Bank believe that the recession could last 12-15 months, postponing the recovery to late 2009 or early 2010.