Oil hitting $100 a barrel will steal the commodity headlines next year.
Crude's return to triple-digit territory will signal that supply and demand, not speculation, is back in the driver's seat. However, not all commodities will follow the lead of crude-oil futures. Instead, 2011 will see investors becoming more selective about which commodities to bet on.
The dollar's influence on the commodity market will lessen because there will be fewer "macro" events significant enough to flip the switch on the world's appetite for risk. There were many trading days in 2010 when markets moved to the tune of the Federal Reserve's attempts to shore up the U.S. economy: Dollar down, gold and other commodities up.
Investors have already seen that correlation weaken in the latter part of this year. Currency impacts on commodities won't be as direct in 2011. This will be due partly to investors having adjusted to a world with greater fiscal and monetary uncertainty. It will also be due to tighter supplies, relative to demand growth across a range of raw materials. The stampede to "safe haven" investments will slow, putting a drag on gold.
Returning to oil, many analysts expect prices to pass $100 on continued robust economic growth in China, slower but persistent U.S. consumption, and reluctance by the Organization of Petroleum Exporting Countries to boost output in the first half of 2011. Oil futures on the New York Mercantile Exchange breached $90 during intraday trading on Dec. 7. Another $10, or 11%, increase doesn't seem out of the question when prices have jumped more than 20% since August.
COPPER FUNDAMENTALS TELL A SIMILAR STORY, with rising demand colliding with global capacity constraints. Soybean prices are also heavily influenced by China. And that giant country has passed enough tests in 2010 to convince investors that it can rein in economic growth without wrecking it.
"It is important to emphasize that the extreme weakness in developed-market demand over the past two years has allowed China and [other emerging-market] economies to grow unconstrained without any competition for commodity supplies, but this is likely to change in 2011," Goldman Sachs observed recently in a research note.
Prices of agricultural products broadly will rise. Even though high prices generally encourage more planting, supplies will rise only incrementally, and potentially unfavorable weather patterns pose an upside risk for prices.
That's not to say there won't be laggards among commodities. U.S. supplies of natural gas will continue to outpace demand, thanks to the shale technology revolution, and that will keep prices depressed. Highly volatile "soft" commodities, such as cocoa, cotton and coffee, which have hit records this year, might reach new peaks in 2011. But the high prices eventually will spark a reduction in demand. Coffee, which will remain in short supply in 2011, faces a challenge farther out. The possibility of future bumper crops could take the perk out of prices.
There is much uncertainty over how new U.S. regulations of commodities trading will shake out. But veteran traders needn't worry, as long as they keep an eye out for fundamental trends and geographical details. Given the large weighting petroleum has in major commodity index funds, investors will do fine just going along for the ride. For outsized returns, though, it will pay to have discriminating taste.
ANNA RAFF is managing editor for resources news at Dow Jones Newswires.