Bryan Doherty: Permanent volatility
The last 5 years have seen dramatic shifts in commodity price volatility. It's highly likely that this shift in volatility is here to stay for the foreseeable future. As we take a step back and look at history, the markets are merely a reflection of a number of historical events that have perpetuated today's increased volatility in commodities.
We'll break down the historical relevance into 3 basic components: demand, supply, and what we will term knowledge. We'll take a look at these 3 variables, however, they all point to one common theme, which is increased price activity due to increased world participation.
From a supply standpoint, the isolation that countries exhibited in the 1950s all the way through the 80s changed in the 1990s, starting with the fall of the wall in Europe. As isolation decreased and capitalism increased, so did a growing need for food and energy products. The world experienced ample supply inventories, however, as demand responded to low priced commodities, it may have been just a matter of time before the usual way of doing business changed. The usual way would be producing enough inventory for countries to get by on their own. However, as their populations increased, and middle classes, especially in India and China, have grown, the need for increased products also grew. As the world shrunk, the need for supply continued to become more relevant. The ability to move product, through increased shipping abilities and commerce, aided a growing demand market.
From a supply perspective, the world has generally been able to keep pace, or even ahead of demand in most years. However, the last 5 years have certainly changed the outlook of just how supply problems elsewhere in the world can ripple throughout the marketplace. The rallies in the agricultural commodities in 2008 were on the heels of poor wheat crops, especially in Australia. The world became keenly aware that supply suddenly wasn't so abundant, and that 3 consecutive years of Australian drought impacted commodity prices. Throw on top of that some weather issues in 2008 here at home, with hundred year type floods in June, and the perfect storm for a supply and demand driven market was in full force. An economic meltdown months later had world economies reeling, and therefore, demand began to slide. However, over the last 2 years, economies have stabilized, and in parts of the world, especially China, has grown substantially. This, in turn, creates potential supply issues. Markets have a tendency to move on perception, and the big perception this year is that China, barring less than ideal crops in China or elsewhere in the world, could gobble up many of the world's excess inventories. Thus, there will be increased volatility into 2011.