Sunday, February 28, 2010

Commodities 2010 Outlook: Resource Realignment

Oil: A slow developed markets recovery amid an emerging markets revolution
A slower than expected recovery in developed market demand has pushed back the clock
on the global inventory drawdown, leaving world petroleum inventories higher and WTI
crude oil timespreads weaker than we had anticipated. However, rising expectations for
economic growth in the emerging markets has pulled forward the clock on the OPEC spare
capacity drawdown, as the market is likely to run out of it sooner rather than later,
providing stronger than anticipated support for long-dated WTI crude oil prices. Overall,
we leave our 2010 WTI crude oil forecasts largely unchanged at an average price of $90/bbl,
but with lower prices at the start of the year and higher prices at the end. We also
introduce a 2011 WTI crude oil price forecast of $110/bbl, as we expect the increasingly
strong demand from the emerging markets to once again require higher prices to ration
demand out of the developed markets, once the OPEC spare capacity is exhausted and the
increasing non-OPEC decline rates weigh on supply.

Precious metals: US Fed on hold leaves gold room to run
With the US Federal Reserve expected to keep its short-term nominal interest rate target
near zero through 2011, we expect the low US real interest rate environment to continue to
provide strong support for gold prices in 2010 and 2011. However, as we also expect US
inflation to remain subdued, we expect gold prices to come under significant downward
pressure once the US economic recovery strengthens and the US Federal Reserve begins
to raise interest rates. Consequently, an earlier-than-expected tightening of US monetary
policy is the primary downside risk to gold prices in 2010 and 2011, in our view. In the
interim, however, we expect the low US real interest rate environment, continued gold-ETF
buying and reduced Central Bank gold sales will allow gold prices to continue to move
higher. We therefore raise our gold price forecasts to $1200/toz, $1260/toz, and $1350/toz
on a 3-, 6-, and 12-month horizon, respectively, with a 2010 average price forecast of
$1265/toz and a 2011 average price forecast of $1425/toz. While an earlier than expected
tightening of US monetary policy presents a substantial downside risk to gold prices in
2010 and 2011, we believe the near-term risk to our gold price forecast is skewed to the

Agriculture: It’s still all about weather, but ongoing structural demand shifts in
corn should prove supportive
Although demand for agricultural commodities, which are less leveraged to the economic
cycle, held up relatively well in 2009, supply-side drivers played a key role in differentiating
agricultural price action over the past year. As discussed in our October 29, 2009 note, It’s
still all about weather, weather continues to drive supply despite significant investment in
agriculture seed technology, which has resulted in a moderate, linear improvement in
yields. Accordingly, while negative weather related supply shocks led to outperformance
of sugar as well as gains in the other softs and soybeans in 2009, positive weather related
supply shocks, particularly in key US growing regions, generated underperformance of
corn and wheat. In 2010 and 2011, we expect supply-side drivers to remain critical in
agricultural performance. However, assuming a return to normal growing conditions, we
believe that corn is best positioned for upside in the coming year and into 2011.

Livestock: Economic recovery suggests rising meat demand amid tighter supplies
Livestock prices substantially underperformed the rest of the commodities complex in
2009 as cost conscious consumers ate less meat, demand for US exports dwindled,
declining feed prices partly reversed a tightening supply chain for cattle and hog herd
liquidation boosted pork supplies. However, for 2010 we maintain that tighter
fundamentals on improving demand consistent with expected economic growth and
sustained US dollar weakness, as well as an eventual return to a tighter supply
environment, will lend moderate support to prices. We expect this support to continue to
strengthen into 2011 on anticipated acceleration in economic growth

25988419 Commodities 2010 Outlook Goldman Sachs

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