Anyone investing in commodities over the past few weeks will have been in for a bumpy ride. During the first part of 2011, commodity prices have soared (see A perfect storm brewing?). This has fuelled inflation and has caused the Bank of England to revise upwards its forecast for inflation (see Busy doing nothing see also Prospects for Inflation).
But then in the first week of May, commodity prices plumetted. On the 5 May, oil prices fell by 7.9% – their largest daily amount since January 2009. Between 28 April and 6 May silver prices fell from $48.35 per ounce to just over $33.60 per ounce – a fall of over 30%. And it was the same with many other commodities – metals, minerals, agricultural raw materials and foodstuffs.
Many financial institutions, companies and individuals speculate in commodities, hoping to make money buy buying at a low price and selling at a high price. When successful, speculators can make large percentage gains in a short period of time. But they can also lose by getting their predictions wrong. In uncertain times, speculation can be destabilising, exaggerating price rises and falls as speculators ‘jump on the bandwagon’, seeing price changes as signifying a trend. In more stable times, speculation can even out price changes as speculators buy when prices are temporarily low and sell when they are temporarily high.
Times are uncertain at present. Confidence fluctuates over the strength of the world recovery. On days of good economic news, demand for commodities rises as people believe that a growing world economy will drive up the demand for commodities and hence their prices. On days of bad economic news, the price of commodities can fall. The point is that when undertainty is great, commodity prices can fluctuates wildly.
Commodities plunge: Blip or turning point? BBC News, Laurence Knight (6/5/11)
Commodity hedge fund loses $400m in oil slide Financial Times, Sam Jones (8/5/11)
Commodities: ‘epic rout’ or the new normal? BBC News blogs: Stephanomics, Stephanie Flanders (6/5/11)
Commodities Still a Bubble – But Prices May Continue to Rise Seeking Alpha, ChartProphet (9/5/11)
When a sell-off is good news The Economist, Buttonwood (6/5/11)
Gilt-edged argument The Economist, Buttonwood (28/4/11)
Commodities: What volatility means for your portfolio Reuters blogs: Prism Money (9/5/11)
Gold, silver rise again on debt, inflation concerns Reuters, Frank Tang (10/5/11)
Commodities After The Crash, No Way But Up The Market Oracle, Andrew McKillop (9/5/11)
Outlook 2011:Three Dominant Factors Will Impact Precious Metals in 2011 GoldSeek (9/5/11)
Energy bills set to rise sharply next winter, Centrica warn Guardian, Graeme Wearden (9/5/11)
Dollar triggered commodities ‘flash crash’, not Bin Laden The Telegraph, Garry White, and Rowena Mason (9/5/11)
The outlook for commodity prices Live Mint@The Wall Steet Journal, Manas Chakravarty (11/5/11)
Three ways to play the next commodities bubble Market Watch, Keith Fitz-Gerald (11/5/11)
- Why did commodity prices fall so dramatically in early May, only to rise again rapidly afterwards?
- Why do commodity prices fluctuate more than house prices?
- What is the relevance of price elasticity of demand and supply in explaining the volatility of commodity prices?
- Under what circumstances is speculation likely to be (a) stabilising; (b) destabilising?
- To what extent are rising commodity prices (a) the cause of and (b) the effect of world inflation?
- If commodity prices go on rising every year, will inflation go on rising? Explain.