Nov 26 – The dominant theme of commodity markets in recent months, in virtually every article or conversation at events, has been how much lower can prices possibly go. The answer is simple, they will stop falling when the point of maximum pain is reached.
With the prices of many commodities at multi-year lows and the broad Bloomberg Commodity Index close to its weakest in more than 16 years, many commodity producers, investors and traders are becoming desperate for any positive signs.
But any bottoming of prices, or indeed the start of a rally, requires more than desperation, it needs fundamental re-alignment of the existing supply-demand balances.
It is here where the concept of maximum pain comes in.
If one accepts that the main issue for commodity prices in recent years has been the rapid expansion of supply, it follows that this can only be remedied by the closure of such capacity.
Even if one takes the view that prices have been hit by softer-than-expected demand growth, mainly from key importer China, the best solution has to be the curtailing of supply.
The only alternative to reducing supply is to have a demand-led price rally, and while demand may indeed improve in 2016 on the basis of increased Chinese infrastructure spending and a generally healthier global economy, the current market consensus is that it won’t be enough to wipe out the existing surplus.
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