Will commodities be able to recover in 2009?

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Just a year ago the debate about grain prices was simple: how high was high?

Huge global demand for grains, governments hoarding food, climate fears amid droughts, storms and floods – basically every bullish factor one could imagine hit the markets.

The psychology of short supplies carried over to other commodities as well, especially industrial metals. The final element for the “perfect storm” sending commodities to stratospheric heights was the tsunami of Wall Street and other speculative money that, frustrated by stagnant stocks and bonds, finally bought into the commodities story.

The benchmark Reuters-Jefferies-CRB index of 19 commodity futures was at 358.71 on Dec. 31, 2007, up 17 per cent for the year. It jumped another 32 per cent to hit record high of 473.97 on July 3, 2008.

Then, as investors blinked, it was over. The index started sliding and by early December fell to a 6-1/2-year low of 208.58 – down 56 per cent from the midsummer highs.

The global economic crisis tied to dried-up bank credit – the lifeblood of all markets – rocked Wall Street but also rolled over commodities, bursting bubbles right and left.

“A great start and an unexpected finish,” said Rich Feltes, director of MF Global Research in Chicago.

Gold had soared past $1,000 an ounce. U. S. wheat prices had gone past $25 a bushel – the previous record was $7.50 – amid a 60-year low in U. S. wheat stocks. Midwest floods and a biofuels boom pushed corn above $7 a bushel, triple the average price for decades. In July, crude oil neared $150 a barrel.

The question for the coming year? How low is low?

“As we head into 2009 I think an important question to ask is will that fund money come back?” MF Global’s Feltes said.

“Commodities are not going to be a lead indicator,” he said, pointing to gross domestic product instead. “The economy has to turn around first. There has to be fundamental justification for higher GDPs for improving commodity demand before investors feel comfortable coming back to commodities.”

In U. S. commodity markets, weekly data from the Commodity Futures Trading Commission has told the story of shell-shocked investors fleeing commodities or cashing out to secure funds.

Open interest in the CBOT’s largest ag contract, corn, for example, had grown to 1.4 million contracts by spring. Today, the total is 800,000 contracts as commodity funds downsized to meet the global margin call that came as economies collapsed.

The credit contagion shows no signs of being solved any time soon, with the hopes of most investors pinned to measures an Obama administration says it will aggressively put in place starting in January.

How quickly that might spur economic growth and investor confidence is an open question. But among commodities, one place to keep an eye on may be grains. Several factors might make food and biofuels a trigger for a commodities recovery.

For one thing, the single biggest demand force in the recent commodities craze – China – is not going away. Neither is food or biofuels demand, although the latter may cool down.

“The theme we’ve had in the last half of this year was all about demand destruction,” said Dan Basse, president of Chicago-based consultancy AgResources. “We’re concerned about supply destruction starting mid to late winter and having a bull market in agriculture the last half of 2009.”

Basse said “supply destruction” – referring to lower global grain plantings – was a key to watch. But so are biofuels.

Another factor is the value of the dollar. A weak dollar makes U. S. grain exports cheaper, for example.

“The U. S. dollar will continue at least early in the year to drive all commodity markets,” said Bill Lapp, president of consultancy Advanced Economic Solutions.

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