Four Reasons Oil Will Lead in the Next Commodity Boom
We will have to learn the hard way.
In 2008, prices of oil, natural gas, gold, silver, copper, corn, wheat, and most other commodities reached multi-year, and in some cases multi-decade, highs. They've fallen sharply since then, but commodities aren't going out of business. Another peak is coming, and it will be far higher, especially for oil.
The price run-up to 2008 came as a debt-induced economic acceleration in the developed countries sucked in imports from the emerging economies of Asia. Virtually all the world was gobbling up commodities, but supplies were still choked by the preceding decades of underinvestment in mine development, processing plants, pipelines, railroads, and other elements of the industrial infrastructure needed for producing and transporting raw materials.
Faster consumption and static production capacity had an unsurprising effect -- prices rose. Then they rose some more and kept on rising. And in the later stages of the commodity price boom, investors, especially hedge funds, joined the bidding as a way to bet on a growing world economy. More bidders, more price push.
But not forever. When the credit bubble that had been overstimulating just about every industry became unsustainable and financial markets everywhere collapsed, commodity prices collapsed along with them in anticipation of a deep recession or worse.
The recent bout of low commodity prices and the continuing weakness of the financial system are setting the stage for another, even bigger commodity boom. For a short while, high commodity prices had been drawing capital into commodity production, but that stopped when prices fell.
Now, while government bureaucrats are funneling hundreds of billions to weak banks, sick insurance companies, clueless automakers, and the politically well connected, the capital needed for new mines, pipelines, drilling projects, refineries, and crops has dried up.
There will be consequences. When the economy crawls out of the current recession, today's paucity of investment in commodity infrastructure will leave us with meager supplies and roaring prices.
There will be a shortage of commodities in general, but the shortage won't be uniform. Energy will be the standout for tight supply and rising prices.
Click to enlarge
The decades of low oil prices shown in the chart meant minimal exploration and little investment to develop existing fields.
The price surge in 2007-08 did give an enormous boost to drilling, but the boost was short-lived.
This year's collapse in oil prices to $35 a barrel compelled oil companies to cut the number of rigs in service, consolidate operations, lay off workers, and delay or cancel projects.
The atrophy in production capacity and the credit crunch's impact on exploration are setting the stage for a dramatic price rise.
That's oil, but you could say more or less the same about most commodities. For oil, however, there's more to the story. Four factors are now at work to make oil the price leader in the next commodity boom.
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