LONDON/SINGAPORE A commodities buying spree spurred by U.S. quantitative easing has raised alarm of an inflationary bubble reminiscent of 2008 when oil and other industrial raw materials struck all-time highs before the crash.
In the run up to Wednesday's announcement from the Federal Reserve, commodity traders said dollar-weakness associated with QE was largely factored in.
But the Reuters-Jefferies CRB index .CRB, a global commodities benchmark, has since hit a two-year high as part of an 18 percent gain since the start of September when markets began to anticipate U.S. action.
Federal Reserve Chairman Ben Bernanke has argued the likelihood of deflation is greater than of inflation.
Inside and outside the U.S. central bank, critics have said QE2 -- so called because this is the second round of quantitative easing -- could lead to high inflation and low interest rates would create asset bubbles as investors sought returns by piling into riskier asset classes.
Dollar-denominated commodities are particularly attractive to non-dollar investors when the U.S. currency weakens. .DXY
"The trouble is Bernanke writes off commodity inflation, claiming our economy is no longer very dependent on commodity prices," said Axel Merk, Manager of the Palo Alto California-based Merk Mutual Funds, with assets of about $500 million.
On Friday, international benchmark U.S. crude and London copper hit their highest levels since 2008.
Some traders said strength was exaggerated, while others predicted further investment flows, although at some point short-term dealers might lock in profits before the year-end.
Among soft commodities, raw sugar hit a 30 year high, while refined sugar moved to a record.
This year's record-breaker gold on Friday hit the latest of a series of historic highs.
"There has been a lot of macro fund buying of commodities in the last day and earlier," said Mihir Worah of Pacific Investment Management Co's (PIMCO) $18.5 billion CommodityRealReturn Strategy Fund.
"I think that is the appropriate reaction to a reflationary Fed, where you want to be invested in real assets, when you think inflation is on its way up. I don't think it is any message of runaway inflation, but higher than we expected a month ago."
OIL POSES LESS INFLATION RISK
Against the backdrop of continued economic uncertainty, gold's strength this year has been linked to its value as a hedge against all kinds of risk, including both inflation and deflation.
While gold can register big gains without derailing economic growth, oil has historically been the commodity with a big impact on inflation and consumer spending.
That effect has been dulled by energy efficiency, especially in developed countries where oil demand growth is stagnant in contrast to Asia, which is expected to lead a rise in consumption.
Saudi Oil Minister Ali al-Naimi said on Monday consumers could be comfortable with an oil price between $70 and $90 a barrel and OPEC Secretary General Abdullah al-Badri said on Thursday he agreed $90 a barrel would not hurt the world economy.
Naimi until this week had stuck resolutely to a preferred $70-to-$80 range for producers and consumers and the upward shift helped to add momentum to an oil market, which has risen by around 7 percent this week.
Richard Batty of Standard Life Investments said a 10 percent rise in the oil price could potentially add 1 percent to U.S. inflation, but only for a year, unless the price rise continued.
"In summary, while QE may boost assets prices further and hence contribute to positive wealth effects and inflation expectations in the U.S. economy, recent moves in oil prices, in particular, may drag on economic growth in the short term," Batty said.
Industrial metals, such as copper, show signs of fundamental strength as inventories shrink, but the oil market, in contrast to the rally of 2008 when it hit a record of nearly $150 a barrel, is amply supplied, which should brake dollar-led gains.
"I would think the impact of QE2 alone is limited. If the price surge is to continue, you need something fundamental. You would need a fundamental catalyst and that would be stocks," said Mike Wittner of Societe Generale.
Fuel inventories in the United States, the world's biggest oil burner, reached record levels in September and overall stocks are still higher than a year ago. <EIA/S>
The Organization of the Petroleum Exporting Countries in its World Oil Outlook on Thursday took a conservative view on price -- assuming only $75-to-$85 a barrel to 2020 -- and said spare OPEC capacity was high at around 6 million barrels per day.
But it also flagged the outside risk of a speculative rally beyond its control.
"While the worries surrounding excessive price volatility and the role of speculation have somewhat diminished over the past 12 months or so, it is essential we do not forget the price extremes that the market witnessed back in 2008," OPEC wrote.
(Additional reporting by John Parry, Frank Tang and Alejandro Barbajosa, Editing by Veronica Brown)