"Case for commods" seen intact after equities rout

A labourer welds steel bars at a construction site in Huaibei, east China's Anhui province, in this file photo.

NEW YORK (Reuters) - Last week's slump in metal and energy prices as equities fell may have made some investors who are new to commodities wonder if any of the fundamental reasons for diversifying into raw material markets have changed.

The simple answer is no.

For as long as investors remember, commodities' unique position as an asset class with little or no correlation to stocks and bonds has been the main justification for putting money into assets like gold, copper and oil.

Yet as equity markets around the world were roiled in the aftermath of China's February 27 stock market plunge, metal, energy and even crop prices bled in collective sympathy. In contrast, U.S. Treasuries' benchmark 10-year note saw its strongest weekly performance in six months as investors fled from asset classes deemed too risky into the safe haven of bonds.

Commodities were humming along again on Tuesday, with copper up 2 percent and gold and oil gaining 1 percent each in midday New York trade. But until Monday, copper and gold were down 7 percent over the past week while oil was off 2 percent.

Despite last week's sell-off, asset managers and market commentators said the case for commodities as a portfolio diversification was unhurt. Commodities, they said, were the best hedge against inflation and generated positive returns even when stocks and bonds were down.

Last week's rout, they argued, was more about the global economy and its impact on all things financial, rather than an exclusive equities/commodities relationship.

"It's not as simple as saying statistically that commodities should go up when other things go down. You have to look at the underlying rationale," said Bob Greer, senior vice president at America's giant bond investor PIMCO, who oversees a $14 billion portfolio for commodities.

NOT THE FIRST EQUITY-TO-COMMODS SELL-OFF

Greer said losses in commodities coinciding with sharp falls in equities were not unprecedented. He cited instances such as the 1990s implosion of America's legendary hedge fund Long-Term Capital Management; the aftermath of the September 11 airplane attacks on New York and Washington; and the two-month period to July last year when high-risk markets were down on fears of a credit squeeze.

"Those institutional investors who trade stocks on margin get whacked with a need for cash and liquidate positions across the board. That is what happened last week, as in all other similar stock market crunches," said Jeffrey Christian, managing director at New York asset manager CPM Group.

Greer said: "What we have in the markets today is talk about a softer economy. That makes people concerned about the demand for some of the industrial metals and energy, which are tied to global economic growth."

Another thing to remember was that all commodities had demand cycles, said Hilary Till, a risk expert at Chicago's Premia Capital Management and co-editor of the book "Intelligent Commodity Investing."

WEAK SEASONAL DEMAND

"Even for gold, which is really more of a currency than a commodity, its demand is highly seasonal as well," Till said.

She said there was little seasonal demand for gold last week as investors offloaded the precious metal, often said to be a safe haven, to pay for losses in equities. Investors in precious metals also liquidated transactions made on yen borrowings, which became costlier to maintain after Japan raised interest rates last month to a decade-high 0.5 percent.

On the other hand, Till said, better seasonal demand forecast for gasoline as the United States shifts into the spring driving season helped jack retail prices of gasoline by 5 percent over the last week.

If anything, analysts said, the rebound in commodities in coming days could be as sharp as last week's slide.

"What strikes us odd about this latest downside move in equities is that unlike previous corrections, there has been no 'smoking gun' to set off the stampede," said Edward Meir, a base metals analyst at New York's Man Financial.

"This suggests that the markets could be prone to a ferocious, snap-back rally, marking the end of the correction and pulling commodities higher in their wake," Meir added.

(Additional reporting by John Parry, New York Treasury Desk; and Janet McGurty, New York Energy Desk)