Analysts forecast a mixed bag for commodities amid global economic slowdown

Given the tumultuous past two years that saw global markets ebb and flow to extreme degrees, investors would be well advised to heed the axiom that the only thing certain for the 2023 commodities outlook is that it’s uncertain.

Analysts generally agree that the global economy is headed for a slowdown, but depending on who you ask, the outlook has elicited bifurcating forecasts from reputable industry sources.

Bank of America’s U.K.-based commodity strategist Michael Widmer shared some key macro-level assessments with a recent webcast conference. The bank expects that a less aggressive U.S. Federal Reserve policy may limit upside to the U.S. dollar, and China’s economy might rebound on a more pragmatic ‘Zero COVID’ policy, while it also anticipates a stabilization of the housing market. At the same time, Europe will be looking at how to navigate the worst of the energy crisis this winter.

“Against this backdrop, it is worth keeping in mind that inventories are extremely low for a range of commodities,” the analyst said. “But most importantly, perhaps, we see demand supported as the energy transition accelerates. As such, we are taking the out-of-consensus view that many mined raw materials, especially the base metals, will rally in 2023.”

Conversely, Moody’s Investors Services released a negative 2023 outlook in late November for non-financial companies in North America.

Moody’s senior VP Edmond DeForest said in a recent report all the ratings agency’s proprietary indicators point downward.

“Our roster of industry sector outlooks (ISOs) is flashing negative, although our earnings growth expectations are a less negative signal than the ISOs themselves. Our credit cycle gauge is also flashing red, forecasting that default rates will rise, albeit from historic low levels. But the debt boom that ended in early 2022 loosened restrictive terms for many leveraged companies, which will hold down defaults despite the weak conditions ahead,” wrote DeForest.

Moody’s believes persistent inflation, higher interest rates, and slowing economic growth create a ‘risk-off’ posture among credit investors. The continuous hikes in interest rates are forcing companies to slow investments and adopt defensive business strategies, which coincide with a downturn in mineral exploration financing and exploration activity.

On the other hand, Moody’s flags that higher interest rates will reduce demand from consumers and businesses alike while rising interest expenses will pressure earnings and hamper free cash flow. Furthermore, the strong dollar will diminish U.S. multinationals’ foreign profits, and U.S. exporters may find that their products have become too expensive compared to local alternatives, according to the company.

It’s worth noting that consumer-facing sectors will come under the highest stress.

“Persistent inflation, higher interest rates, the strong dollar and bleaker GDP growth prospects cast a cloud over North American nonfinancial companies. As we enter 2023, companies remain exposed to the many prominent downside risks in the financial markets. These include economic contagion from weaker regions and multiple geopolitical flashpoints”, says DeForest.

Also, Moody’s observes that consumer behaviour is shifting from discretionary purchases, such as furniture and electronics, to essentials like food and gasoline, especially as wage growth will not keep up with inflation, pinching consumer purchasing power. In that same vein, rising mortgage rates will severely curtail the housing market and reduce spending on the home, which hurts homebuilders, construction product companies, and real estate-related services.

“However, the debt boom that ended in early 2022 loosened restrictive credit terms for many leveraged companies, building resilience for the weak conditions ahead,” noted DeForest.

However, all is not negative in Moody’s forecast.

Factors that could prompt it to reconsider its outlook include stabilizing and reducing inflation, if interest rates stop rising or decrease and earnings expectations and business conditions improve.

“We would consider revising our outlook to positive if we expected a period of sustained GDP and earnings growth, driving an expectation for low defaults, robust liquidity and strong credit fundamentals across most key industries,” noted DeForest.

Commodities outlook

Meanwhile, macro-economic factors aside, BMO Capital Markets has released a more optimistic commodity outlook for 2023. The bank’s global metals and mining team expects that despite growing economic headwinds in the current milieu, most metals and bulk commodities prices remain healthy by historical norms.

“While 2023 metals demand growth is unlikely to be stellar, on a six-month view, we expect improved Chinese demand to offset weakness in the developed world,” the bank said in a Dec. 14 research note to clients.

“We see the recent general price rally as somewhat ahead of fundamentals, particularly given typical Q1 demand weakness. However, we’ve raised the majority of 12-month forward commodity forecasts as 2023 balances are incrementally tighter than might have been thought two months ago,” according to the global metals and mining team.

For 2023, the bank’s most significant revisions were to molybdenum, up 33% amid concerns surrounding Chilean supply, which accounts for about 20% of the global market. Other notable uplifts were seen in nickel (11%), hard coking coal (11%), semi-soft coal (10%), zinc (9%), and copper (9%), owing to a combination of supply downgrades and persistent low inventory levels. For precious metals, BMO has revised its silver forecast up slightly (3%) and, to a lesser extent, gold (2%).

Iron ore is one of the few commodities for which BMO has a more robust outlook in the first quarter, expecting it to move higher than current spot price levels.

This is doing little more than playing the usual seasonality in this market, with Chinese steel production in March likely to be higher than in the current quarter. BMO also sees steel prices as potentially having hit a low-water mark after recent sharp falls.

“Longer term, we have an upward trajectory in platinum, uranium and aluminium prices as future demand expectations improve. We see copper and nickel as requiring through-cycle demand rationing, leading to a consistent premium to the cost curve over the coming years,” wrote BMO.

BMO expects investors are looking beyond some of the near-term challenges, particularly in copper, towards what is likely to be a stronger second half of the year. Further, iron ore and coal producers present compelling near-term opportunities, offering above-average free cash flows and potential for “solid” shareholder returns.

BMO has increased the target price on 33 stocks (12% average) and lowered them on two companies, while no rating changes were made.

In the precious metals sector, BMO said an increase in its near-term price forecasts had driven positive revisions to earnings and cash flow estimates for precious metals companies. It has updated target prices on 28 companies in its coverage universe, up on average by 7%.

BofA says the table is set for copper to rally in the second quarter. Copper is set to rally as its use in green technologies is expected to offset cyclical demand weakness. The bank sees potential for the red metal to trounce US$12,000 per tonne (US$5.44 per lb) in 2023.

“Of course, there is also a risk that supply will underperform again, preventing a replenishment of depleted inventories,” said Widmer.

BofA also sees aluminium upside, partially because global supply is set to remain constrained. At the same time, more vigorous activity in China should reduce exports. “We expect a nickel market surplus next year, but this supply overhang is set to be temporary, and further supply growth is essential to prevent renewed constraints kicking in from 2024,” said Widmer.

Meanwhile, physical gold demand from central banks and India and China has been “quite strong.”

“A slowdown in the pace of tighter monetary policy will likely bring investors, the missing piece, back into the market,” said Widmer.

“Indeed, we see scope for a Fed pivot and a slowdown in the pace of rate hikes. This, along with reduced appreciation pressure on the U.S. dollar, should push gold higher, with the yellow metal likely stabilizing above US$2,000 per ounce.”

Similarly, the bank expects higher platinum prices on purchases from the auto industry, substitution for autocatalysts and the hydrogen economy. Palladium is set to decline.

BofA expects the uranium market to remain tight, so prices should rally 16% year-on-year to US$58 per lb. in 2023.

However, lithium supply is set to temporarily catch up with demand, likely ending the sharp rally in recent quarters. The bank said it has concerns over diamond demand on the back of an increasingly uncertain economic outlook, which it thinks could impact the demand for discretionary consumer goods such as diamond jewellery.