A glimmer of hope emerged in January after the market’s year-long gloom as inflation slowed, interest rates dropped, China reopened, and earnings came in better than feared. Most global equity indices posted positive returns in January, though they are still a long way from reaching previous highs.
There is both good and bad news for equity markets and risky asset classes such as commodities in 2023. The good news is that central banks will probably pivot and signal interest rate cuts sometime next year. This should lead to a rebound of asset prices and subsequently the economy by the end of 2023. The bad news is that in order for that pivot to occur, we will need to see a combination of more economic weakness, increased unemployment, market volatility, a decline in levels of risky assets, and a fall in inflation. In the near future, all of these are likely to cause or coincide with downside risk.
While we acknowledge that the Fed sounded less hawkish in its most recent rate decision, we believe the Fed (and other central banks around the world) will want more evidence that core inflation and wage pressures are sustainably subsiding before declaring victory on inflation and considering easing policy. It will take time, and in our opinion, it is unlikely to happen this year.
What does this mean for investors?
In times of uncertainty, we believe that diversification is essential in investing as b y allocating investments across various asset classes, investors can protect their portfolio from unfavourable changes in one particular asset class, thereby achieving an optimal risk-adjusted return.
Why should you add Commodities into your portfolio?
Commodities are essential goods that are frequently used as inputs in the production of other goods or services, such as energy sources, raw materials, metals, and agricultural products. Commodities, along with equities, bonds, and real estate are among the most valuable asset classes. Each asset class has a unique role to play in a portfolio.
Commodities are subject to large price swings in both directions. Even with their volatility, holding them as part of a diversified portfolio can be beneficial. For instance, while equities provide capital growth, bonds offer the much-needed stability and commodities provide a hedge against inflation. Investors can get exposure to commodities through exchange-traded funds (ETFs), futures contracts, or shares of commodities-related companies. Separately, it is also possible to invest in a unit trust fund or a wholesale fund that includes a diverse range of commodities.
Sources: Vanguard, BlackRock, Barclays, State Street, PIMCO, Morningstar
The Russian invasion of Ukraine in 2022 and the subsequent sanctions have brought commodities into spotlight, which has raised the price of commodities. We believe that commodities prices should remain elevated this year, despite some signs of modest moderation.
Here is our outlook for selected commodities in 2023.
Gold – Central banks were big buyers of gold last year but this buying has not got the attention it merits. Gold behaved remarkably well in 2022 even under the most aggressive Fed monetary tightening cycle in 40 years, demonstrating its value as a capital preserver. We believe that renewed escalation remains a risk, and it is certainly a good reason to keep gold exposure in a portfolio.
Oil – The global oil supply is expected to remain tight in 2023. Investors should keep a close eye on whether the reopening in China could potentially boost demand for energy prices (thus reigniting the uptrend momentum in the US CPI); as well as Russia’s retaliation with an oil price floor and a halt in supply to countries participating in the G7 price cap. Global recession remains a risk.
Gas – Last winter appeared to be manageable for Europe due to the late start to the heating season, but we believe 2023 will be a difficult year for the European natural gas market, as Europe will face a full year’s worth of virtually no Russian gas and only a minor increase in global LNG supply. It is unlikely that the region will be able to build storage at the same rate as in 2022. Demand destruction will need to continue to ensure adequate supply for the 2023/24 winter. In order to see this demand destruction, prices will have to remain at elevated levels.
Coal – A drop in Russian gas supplies prompted a global energy shift to coal, while China and India continue to increase output. With more supply available globally, coal prices will remain in check.
Agriculture – Prices for wheat, soybeans, and corn are expected to be volatile in 2023. Aside from the weather, investors should keep an eye on the ongoing Ukraine-Russian tensions.
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