Commodities have taken off in 2022, posting strong positive performance year to date while both stocks and bonds are negative. Strong demand and supply side challenges have escalated prices across most commodity sectors. Furthermore, the Russia-Ukraine conflict has exacerbated the situation since both are major exporters of key commodities, including crude oil, natural gas, iron, steel, and wheat.
Our outlook on commodities became positive in early 2021 as the fundamentals improved along with the prospect of rising inflation. Prices had already been rising, but we were finally seeing improvement in the roll return, which is a key component of return when using commodity futures. The improvement in the roll return has been a function of strong demand raising the prices on the front end of the forward curves.
At this time, commodities are benefiting from several constructive developments, and we remain positive on the asset class over the next 12-18 months. The current volatility in prices, however, suggests some caution is warranted over the near term.
Tight supply and strong demand conditions for most sectors provide a positive environment for commodity investment. In particular, the energy sector, the largest sector in the index, has had some of the strongest performance and fundamentals, especially with the Ukraine and Russia situation. Furthermore, as an input cost to production, higher energy prices have also driven up prices for many other commodities, particularly in agriculture.
Other positives include the prospects for better collateral returns, thanks to rising cash yields as the Federal Reserve (Fed) hikes interest rates.
Lastly, the economic environment, with more than 83% of countries expanding according to manufacturing surveys, is also supportive for commodity demand.
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