We expect commodities to underperform US equities - Capital Economics
Asset Allocation

We expect commodities to underperform US equities

Asset Allocation Update
Written by Oliver Allen
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Although we expect oil prices to rise a bit further this year, we doubt that we are in the early phase of a new “super cycle” in commodities. In fact, we project that the returns from commodities will lag those from US equities considerably over the next decade, as they have done for most of the past fifty years.

  • Although we expect oil prices to rise a bit further this year, we doubt that we are in the early phase of a new “super cycle” in commodities. In fact, we project that the returns from commodities will lag those from US equities considerably over the next decade, as they have done for most of the past fifty years.
  • A broad-based rally in commodity prices has now been underway for many months. From its trough in late April of last year, the S&P GSCI Commodity Index has returned roughly 80%, comfortably beating the return of just under 45% from the MSCI USA index of US equities. While energy commodities have led the charge, industrial metals and agricultural commodities have also surged. (See Chart 1.)
  • A confluence of factors seems to explain why commodities have fared so well over this period. Agricultural commodities appear to have been lifted by a combination of supply disruption and strong demand from China. Meanwhile, the rally in industrial metals has also largely been due to demand from China, and its construction-heavy fiscal stimulus. Finally, oil, which along with its derivative products has a weight of around 90% in the S&P GSCI Energy Index, has been boosted by the re-opening of economies, and hopes that COVID-19 vaccines will soon mean a much stronger recovery in demand from the transport sector.
  • More recently, the prospect of a large US fiscal stimulus has provided further fuel for the rally. All else equal, industrial metals could benefit from greater spending on infrastructure, as well as government efforts to tackle climate change, given that many are used extensively in green technologies. While the transition towards green energy is bad news for energy commodities in the long run, demand might receive a lift in the short-to-medium term, if spending on such programmes spurred strong economic growth more broadly.
  • Chart 2 shows the relative returns from commodities and US equities since the end of 1969, the start of the S&P GSCI Commodities Index. While the long-run trend has been for commodities to underperform US equities, this has been punctuated by a few periods in which commodities outperformed considerably.
  • However, we doubt that the rally in commodities in recent months represents the early stages of another similar period. (See here, and our dedicated Commodities Overview, Energy and Metals services.)
  • We are downbeat on the prospects for industrial metals largely due to our views of China’s economy. As stimulus there is withdrawn, we think that China’s current cyclical upswing will give way to a sharp structural slowdown. That would be a major headwind for industrial metals, given that China accounts for about half of global demand for many of them. We expect it to take roughly another decade for the transition towards green energy to provide enough of a boost to offset the impact of weak demand from China.
  • Admittedly, we think that oil prices will climb a bit further over the rest of 2021, as restrictions on activity are lifted. However, even though we anticipate a fairly strong recovery in the global economy, we think that the prospects for oil are less bright thereafter. That largely reflects how we expect much of the oil supply which has been taken offline during the pandemic to return next year, and oil demand to be held back in the following years by the ongoing transition away from fossil fuels.
  • More generally, the ability of both US shale producers and some members of OPEC+ to ramp up output relatively quickly in response to stronger oil demand – should it arise – means that we think there is little chance of growth in demand outstripping growth in supply on a sustained basis over the coming decade.
  • The upshot is that we project that the S&P GSCI Commodities Index will return minus 4-5% between now and the end of 2030 on an average annual basis. By contrast, we project an average annual return of 6-7% from US equities. (See our recent Long Run Asset Allocation Outlook for more.)

Chart 1: Total Returns From US Equities & Commodities Since 27th April 2020 (%)

Chart 2: Ratio Of Total Returns Indices For US Equities & Commodities (27th April 2020 = 100)

Sources: Refinitiv, Capital Economics

Sources: Refinitiv, Capital Economics


Oliver Allen, Markets Economist, oliver.allen@capitaleconomics.com