Does the spike in commodity prices indicate an economic rebound?

Does the spike in commodity prices indicate an economic rebound?

The price of crude oil has rallied more than $10 per barrel in less than a month and the price of iron ore -- raw material for steel -- on Monday surged by 19%, raising hope in the global markets that downturn in the price of commodities may have bottomed out and the economies all over the world may now be on a recovery path.

The impact of the rally in international iron ore prices on Monday was visible on the Indian metal stocks on Tuesday. Take a look:

  • SAIL jumped 8.11%
  • NMDC shot up 6.12%
  • Jindal Steel rose 4.9%
  • Hindalco gained 4.73%

The BSE Metal Index outperformed the market over the month through 4 March, rising 8.26% compared with Sensex's 1.27% gain. The index also outperformed the market in the past one quarter, gaining 4.46% against Sensex's 3.87% fall.

Read: Before celebrating oil @ $30 don't forget to check the ramifications

But, is there a long-term recovery in sight or the surge is momentary for Indian as well as global commodity stocks?

A general reading to any surge in the price of commodities like iron ore and oil would be to predict increasing demand in the world economy.

China is the biggest consumer of iron ore as it has world's largest steel producing capacity. And an increase in its iron ore prices indicate increasing demand for China's idle steel capacity.

But Goldman Sachs, caution against reading too much into the recent spike in commodity prices.

According to Goldman Sachs, the unprecedented jump in iron ore was the result of a surge in steel prices before China enters this year's peak construction season.

"The physical shortfall in steel supply can be filled easily and the subsequent deterioration in steel margins is likely to put iron ore prices under renewed pressure," said the report by Goldman Sachs. The bank maintains a year-end price target of $35 per ton that would be a 44% decline from Monday's price for iron ore.

Robin Bhar, commodities analyst at Societe Generale, was quoted by Business Standard: "We don't have enough evidence to suggest a turnaround. We're not seeing a huge upswing in [physical] buying this is a short-covering bounce."

Moreover, China had recently announced cut in its steel production capacity by 100-150 million tonnes that will lead to the loss of up to 400,000 jobs.

Watch- Five facts: Why are oil prices falling?

Companies do not make job cuts on the basis of short-term market speculation.

On the price of crude oil, investment bank Macquarie said the rally in oil looks premature and prices could slip back towards $30 a barrel.

Goldman Sachs, too, gave a bearish outlook on oil for the remaining year, saying: "only a real physical deficit can create a sustainable rally that is still months away should the behavioural shifts created by the low prices in January and February remain in place".

While some traders may be making money due to sudden surge in the price of commodities, but it would be wise to look at the medium- to long-terms fundamentals of economies in the world, before expecting any kind of revival in the global economy. Therefore, long term investors must hold their bets, for the moment.

Edited by Joyjeet Das

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Neeraj Thakur

Neeraj Thakur @neerajthakur2