What was the best performing asset when the Fed raised interest rates? It's not the US dollar or US stocks, but commodities! Yes, there is no doubt that in the four interest rate hike cycles since 1990, the yield of commodities one year after the interest rate hike reached 23.5%. During this period, the yield of major categories of assets was ranked as follows: commodities > stocks > US dollars > US bonds. This conclusion seems contrary to intuition, because in the interest rate hike cycle, the risk appetite of the market will inevitably fall. However, if we consider that the Fed's interest rate hike is to prevent or combat inflation risk, and often lags behind the curve in the early stage of interest rate hike, it is obvious that commodities have a greater chance to outperform other categories of assets in this environment.
Through the first three rounds of interest rate hikes, we found that crude oil, copper and other commodities are less disturbed by interest rate hikes and rising interest rates. The main logic of the price trend lies in the contradiction between supply and demand, which has a strong correlation with the implied inflation rate of the market. The impact of the Fed's interest rate hike on the demand side is difficult to achieve in the short term. Commercial demand in the economic expansion cycle can well support commodity prices. On the other hand, in the early stage of interest rate hike, the upward space of the US dollar index is often limited, so it does not form a continuous pressure on commodity prices.
Gold has performed strongly in the interest rate increase cycle, and its price trend has an obvious reverse change relationship with the actual maturity yield of US bonds. However, when the policy change leads to the change of basic supply and demand, the correlation between gold price and the interest rate increase of the Federal Reserve will be greatly reduced. In addition, gold can well resist the risk of high inflation, and inflation is synchronized with the interest rate increase cycle, which is one of the reasons why gold performs well in the interest rate increase cycle.
June 1999 May 2000:
Crude oil: affected by OPEC production reduction and Kosovo war, the widening gap between supply and demand led to the rise of oil price. Since the beginning of 1999, crude oil has been surging. After the fourth interest rate hike in February 2000, WTI crude oil increased by nearly 110% compared with early June 1999. Due to the collapse of the Internet bubble in March 2000, the price of crude oil has been adjusted for a short time, but it returned to $30 / barrel in June 2000, and the annualized rate of interest rate rose to 76.2%.
Copper: after the recovery of Asian economy in 1999, the demand for copper rebounded, the gap between supply and demand expanded in 2000, the price of copper rose sharply, and the annualized yield during the interest rate increase cycle reached 14.4%.
Gold: the correlation between gold price and interest rate increase is weak, which is mainly affected by market supply and demand caused by policy changes. The price of gold fell in May 1999 due to the announcement of the sale of gold reserves by the UK Treasury. The price fell by 1.2% in the first month after the interest rate hike. Since then, gold rose sharply in September due to the signing of the central bank gold agreement, and the gold yield reached 11.3% one year after the interest rate increase.
From July 2004 to June 2006:
Crude oil: the rapid growth of the global economy led to an increase in crude oil demand, which increased by nearly 4% in 2004 and nearly 2% in the following two years. However, the crude oil production of some oil producing countries declined. The gap between crude oil supply and demand expanded from 2004 to 2006. WTI crude oil price rose by 58.4% one year after the first interest rate increase, and the annualized yield during the interest rate increase period reached 44%.
Copper: global economic growth superimposes the impact of the US real estate cycle, and copper demand continues to rise, driving the rapid rise of copper price. The annualized rate of return during the interest rate increase cycle reached 68.6%.
Gold: inflationary pressure, natural disasters and geopolitical crisis promote the continuous rise of gold price. Under the influence of Hurricane Katrina in August 2005, even if the Federal Reserve raised interest rates 11 times since 2004, it failed to control the upward pressure of inflation, and the PCE rose to an all-time high of nearly 4% year-on-year in September 2005. In addition, in 2006, the situation between the United States and Iran was exacerbated by Iran's announcement of successful production of low enriched uranium, and the price of gold continued to rise. Due to the good anti inflation and risk aversion properties of gold, the annualized yield during the interest rate increase cycle reached 25.2%.
From December 2015 to December 2018:
Crude oil: due to OPEC production increase and other factors, the crude oil price weakened in 2015, with a decrease of 16.5% in the first month after the interest rate increase. However, OPEC reached production reduction agreements with other countries, and crude oil prices rebounded. One year after the first interest rate hike, crude oil prices rose 44.5%. In October 2018, the United States sanctioned Iran's crude oil less than expected, some countries increased production ahead of schedule, crude oil prices fell sharply, and the annualized yield during the interest rate increase cycle fell to 7.1%.
Copper: changes in supply and demand dominate the trend of copper price. In 2016, major mines reduced investment and capacity utilization dropped. Due to the widening gap between supply and demand, copper prices continued to rise in the first half of 2016-2017. In the second half of 2017, the growth rate of China's infrastructure investment fell, and the decline in demand led to the correction of copper price. The annualized yield during the interest rate increase cycle was 9.2%.
Gold: since 2007, the reverse change relationship between the real interest rate and the gold price has been strengthened. The decline of the yield to maturity of 10-year tips in the early stage of interest rate increase has driven the gold price higher. Since then, although the real interest rate has gradually increased due to factors such as interest rate increase and table contraction, under the influence of international political and economic risks such as brexit and Sino US trade war, the gold price is relatively stable as a whole, and the annualized rate of return between interest rate increase cycles is 6.0%.
In 2022, commodity prices are expected to continue to outperform other assets in the new round of fed interest rate hike cycle. The Fed's interest rate hike itself lags behind inflation, and such monetary policy logic itself is conducive to commodities. In view of the fact that it is still difficult to alleviate the supply chain problems, especially the shortage of raw materials this year. By category, driven by the gradual deregulation of epidemic prevention policies in various countries and the rapid recovery of cross-border travel demand, the demand for crude oil has increased significantly. The intensification of the dispute between Russia and NATO may also have an impact on crude oil supply, and there is more room for oil prices to rise. Secondly, the gap between copper supply and demand has increased, and the inventory level is at a historical low. With China increasing investment in new infrastructure and new energy vehicles, copper prices may continue to remain strong. In addition, although the rise of the real rate of return will drag down the price of gold, the current inflation expectation is still high, and the price of gold is expected to be supported under the increasing uncertainty such as the impact of the epidemic and the geopolitical crisis.
Risk tip: the spread of the epidemic exceeded expectations, and China's foreign policies exceeded expectations
