Entities with short term perspective will get wiped out

Written by shyamal Gupta | Updated: Dec 30 2007, 04:47am hrs
In the Chinese calendar, 2008 is known as the year of Rat. In India, Rat is associated with Lord Ganesha, who is widely revered as the remover of obstacles. If the commodity futures market needs anything - it is the removal of obstacles of growth. This year will probably witness a large number of removals of structural impediments by the existing sectoral order and overall structural business adjustments rather than any drastic policy change by the govt.

Demand for commodities from emerging economies is incredibly strong and incredibly resilient, given the high prices. Given the limited growth in supply across most markets crude, gold and grains prices will still have to increase substantially from the current levels to slow down the healthy demand growth from emerging countries.

On the corporate side, commodities price momentum will spur mergers and acquisitions, like the one seen in case of BHP-Rio Tinto. The logic is to focus output in fewer hands to instill market discipline and protect prices.

The trend is fuelled also by the rise of new competitors form previously unknown geographies. Their ambition, cash flow and concentrated ownership means consolidation is unlikely to happen cheaply. There is a saying Bulls will make money, Bears will make money but Pigs will get killed. Entities with short term perspective and without backward and forward integration will get wiped out from this market.

International commodity exchanges during the last two years had witnessed a large number of mergers. While domestically we can not rule out similar mergers in years to come, it is important that the focus shifts form hype to the issues of exchange governance. It is also hoped that exchanges will come out with the clearing houses which is so prominently missing in the operating structure.

STT will continue to hang like sword of Damocles on Commodity Futures business. Abhijit Sen Committee report may perhaps see the light of the day unlike FCRA Amendments which may not get tabled in 2008 in Parliament.

At the national level the lack of institutional capacity to think coherently about food and energy security will lead to high cost import dependence. The inability to monitor, manage and report the demand effect of the growing economy will keep the economy highly vulnerable to price shocks.

Commodities have historically displayed a low correlation with other types of assets. While sectoral diversification is a plus, commodities remain a complex asset class and selling diversification is harder when there is less chance of positive returns. Already, a bigger share of the money is still heading for equities in India. The trend will continue.

On the price front of gold in 2008, minimum target is $925, based upon a continuation of the trends. We could, however, see a spike between $975 and $1025 if, the credit crisis escalates and the central banks are forced to inject substantially more liquidity into the financial system than anticipated. However, the strengthening of rupee will have its affect on the domestic price.

The base metals outlook seems clouded as mixed signals have gone due to large fund activity. However, fundamentals continue to look stronger and demand driven.

The oil majors are boosting their exploration spending to an estimated $370 billion next year. That means, some undervalued oil exploration and production companies are on the launch pad. There is a likelihood of crude remaining over US$ 100 and averaging at around US$85.

Domestic wheat prices will continue to take cues from international markets (which have a tight demand-supply situation) and the outlook remains positive for prices. On the maize front, the market is expected to be positive. Though the expected global corn production (including India) is 1.1 MT higher, bigger demand from the alternative fuels sector, at a time when crude oil is ruling high, could fuel the maize market.

Extrapolating the growth trends three striking conclusions can be drawn. First, the commodity futures market may see more internal setting of order rather than external policy intervention during 2008, Secondly, the overall commodity market and the corporate setups will see large mergers. Thirdly, the national economy will remain highly vulnerable to the increasing price trend in the international market.

The author is head- institutional business at Kotak Commodity Services