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Commodity trading course: What is the Commodity Super Cycle?

The super cycle in commodities has come to an end. So say most commentators, but what exactly is a commodity super cycle and, more importantly, are they right?

What is the commodity super cycle?

Essentially, the super cycle in commodities is nothing more complicated than a sustained period of heightened demand for raw materials from oil and copper to wheat and cocoa. 

The last ten years has been seen as a super cycle because of the incredible pace of industrialisation in Asia. In particular China's insatiable demand for commodities has been the driving force. China’s share of total world demand in 2011 of coal was 42%, copper 43% and cotton 38%.

For example, when every resident of Beijing suddenly wants a new car, demand for platinum and palladium soars as automakers sell millions of new cars complete with catalytic convertors.

Rather than individual prices being based on how each performs against one another and other market indicators, every commodity takes on a new mass appeal that drives the market and prices.

Research published last year - Super-cycles of commodity prices since the mid-nineteenth century – explains what we mean.

Essentially, over the last 150 years, the world has been through three complete super cycles. Each of these last for about four decades and each made commodities between 20 and 40 percent more expensive, before prices dropped back to their previous levels.

Shocks to the world economy were the common denominator - World War I, reconstruction after World War II, and the Arab oil boycott of the 70s. Now add the incredible growth of China to that list of major economic shocks.

Why has it ended?

For many, the commodity super cycle was coming to an end even before the massive two-day gold rout of April 2013.  But the sudden collapse in the price of gold, and the resultant dragging down of many other metals, prompted researchers at Citi to proclaim the end of the super cycle once and for all.

Gold

"Citi expects 2013 to be the year in which the death knolls ring for the commodity super cycle, ushering in a new decade of opportunities based on how individual commodities will perform against one another and against broader market indicators such as equities or currencies," research analysts said.

"The forecast prices of key base metals of aluminum, copper and nickel have been cut between 5-10 percent for 2013 and between 8-13 percent for 2014. The gold price has seen the biggest change with a cut of around circa 13 percent for the next three years."

Ended, or just a pause?

China's growth rate will slow. The world's biggest building boom in history will slowly come to a halt and the economy will be restructured. All this will have a profound effect on global commodity markets. But has this realisation already been factored into the markets (ie, end of the super cycle) or is this simply a pause for breath?

The commodity supercycle still has about a decade left, while the “mid-cycle pause” may last for 12 more months, according to JPMorgan Chase & Co.

“My view is that commodity super cycle has a decade left in it,” Michael Camacho, chief executive officer of commodities for Europe, Middle East and North Africa, told the FT Global Commodities Summit in Lausanne. Marginal costs will increase for every commodity in the next 10 years, he believes.

Is he right? Well, the research seems to suggest that he may well be. China's appetite for commodities has been raising their prices since the start of the millennium and it seems we may well be about 10 to 15 years away from the end of this current cycle.

Oil

IW says: "They call it a super cycle just because it has been going up for years, but in my view a cycle goes round and round....in any case, commodities are likely to fall a fair bit over the next 4 or so years before turning upwards again."

Oil, always awkward

As ever, you can't just apply a simple (or complex) economic theory to the real world. Oil is the spanner in the works and seems to distort all the results.

Allowing for inflation, during each super-cycle the average price of commodities has actually gone down. Hard to believe, but metals and agricultural products have fallen by about a third and half, respectively, over the last 150 years. In that time oil has tripled in value. Gold, meanwhile, is a law unto itself....

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