The Case for Commodities: ‘Super-Backwardation,’ Structural Demand and Inventory Shortages

Current Market Status (as of Feb 7, 2022)

• Brent crude oil has surged above $90 per barrel, the first time reaching this level since 2014.
• Prices have risen across oil, metals, and grains despite slowing global economic growth, hawkish central bank signals, and fading fiscal support.
• Markets are characterized by "super backwardation," where spot prices significantly exceed forward prices, indicating critically tight physical supply.

Drivers of Price Surge

• Commodities are "spot assets" driven by the absolute level of demand rather than the growth rate of demand, allowing prices to rise even if growth slows.
• Global spot activity is high, with China accelerating demand following weak Q4 data despite Omicron variant concerns.
• Supply constraints are pervasive; 27 commodities covered by Goldman Sachs are currently in deficit with declining inventory levels.
• The "Revenge of the Old Economy" narrative describes a lack of long-cycle capital expenditure (CapEx) in traditional sectors over the last decade.
• Low returns from 2010–2020 and ESG-driven capital allocation ($299 billion of $300 billion in 2021 went to green investments, starving traditional sectors) have stifled new supply.

Supply-Side Constraints

• Oil: Only Saudi Arabia and the UAE can produce more today than in Jan 2020; the U.S. is 1.5 million barrels/day below pre-pandemic levels, and Russia cannot meet quotas.
• Agriculture: Unfavorable weather in Brazil and Latin America has reduced yields, causing soybeans to spike; inventory levels are near critical operating lows.
• Metals: Long-cycle mining CapEx was displaced by short-cycle tech investments post-2008 financial crisis and has not recovered.

Forward-Looking Forecasts & Risks

• Goldman Sachs forecasts Brent oil at $105 per barrel in the second half of 2022.
• Upside risks are skewed higher due to OPEC nearing capacity constraints and the potential for inventory exhaustion similar to the 2004–2008 cycle.
• Agricultural targets for corn have been revised upward to ~$7/bushel (currently pricing ~$6), with weather risks leaving upside potential unpriced.
• Physical supply bottlenecks could slow economic growth before financial tightening (rate hikes) impacts activity, as 2022 is defined by raw material constraints rather than logistics.
• Geopolitical tensions between Russia and Ukraine are unlikely to disrupt energy flows due to "mutually assured destruction" of revenue vs. demand, but agricultural exports (wheat, corn) face disruption risks from accidents.

Structural "Super Cycle" Drivers

• Decarbonization: Expected to drive ~$16 trillion in green CapEx over the decade (equivalent to one "China" in the 2000s), with a second "China" scale projected for the following decade.
• Key Commodities: Copper is identified as the "new oil" (strategically critical for electrification); aluminum is a paradoxical beneficiary due to its necessity in green infrastructure despite high production emissions.
• Policy Shifts: Three interconnected policies drive structural demand: income inequality/redistribution, climate change mitigation, and deglobalization.
• Demand Mechanism: Commodity inflation is driven by "volumetric" consumption of lower-income groups, whose purchasing power has been restored post-COVID, contrasting with high-income groups who drive financial asset inflation.

Investment Implications

• Physical commodities are identified as the primary hedge against inflation due to the "forcing mechanism" of captive producers and consumers (e.g., heating oil, raw materials).
• Current asset under management (AUM) in commodities is ~$225 billion, representing a tiny fraction (~1% potential) of the $250 trillion global AUM, suggesting significant capital inflow potential.
• Market sentiment remains skeptical of the commodity space despite the physical reality of deficits, creating a divergence between paper market valuations and physical supply realities.