Commodity prices dropped sharply in August, as hedge funds sold lucrative
    positions in oil and metals

    TORONTO, Sept. 28 /CNW/ - After reaching a spectacular peak in May,
Scotiabank's Commodity Price Index, which measures price trends in 32 of
Canada's major exports, posted its third consecutive monthly decline in
August, falling more than five per cent month-over-month. Commodity prices
fell across a broad front, with all four sub-indices, metals and minerals, oil
and gas, forest products and agriculture losing ground. Nevertheless, the All
Items Index remains 3.6 per cent above a year earlier.
    "The sharp decline in August largely reflected negative fallout from a
very weak U.S. housing market and rising delinquencies and foreclosures in the
U.S. sub-prime mortgage market, as adjustable rates were reset higher," says
Patricia Mohr, Vice-President, Economics and commodity market specialist at
Scotiabank. "This triggered dislocation in the asset-backed commercial paper
market used to fund sub-prime mortgages and widening credit spreads across
debt markets. Investment and hedge funds in the United States and Europe,
involved in securitizing U.S. sub-prime mortgages and facing heavy losses,
were forced to sell profitable metal and oil positions around August 16 to
raise cash to cover stepped-up bank collateral requirements, margin calls and
potential investor redemptions."
    Most base metal and oil prices have subsequently rallied back, following
the Federal Reserve Board's 50 basis point cut in the U.S. discount rate on
August 17, 2007 and another larger-than-expected 50 basis point cut in both
the Federal funds rate and the discount rate on September 18. These aggressive
moves are intended to bolster liquidity and stem the negative fallout from
tighter credit conditions on the broader U.S. economy.
    After peaking at an exceptional US$24.59 per pound in May, LME (London
Metal Exchange) nickel prices continued to move lower, falling from US$15.16
per pound in July to a low of US$11.36 on August 16, pushed down by hedge fund
selling. However, prices have rebounded sharply to US$14.75 in late September
and are likely to strengthen further in October and November. Stainless steel
distributors are expected to boost their orders again, after a recent decline
in reaction to extraordinary nickel prices.
    "Copper has proven to be quite resilient to recent financial market
developments. LME prices fell to a low of only US$3.16 per pound during the
mid-August correction, followed by a complete recovery to US$3.69 in late
September," says Ms. Mohr.
    Potash prices at the Port of Vancouver rose from US$202.50 per tonne in
July to US$209 in August, a new record high. Supplies are tight and further
price increases are in the cards before year end. Prices for Southeast Asia
have already been raised to US$330 cfr (including the cost of freight), up 53
per cent from only US$215 a year earlier.
    Gold prices (London PM Fix) jumped as high as US$737 per ounce on
September 21 on weakness in the trade-weighted U.S. dollar, with the euro
recently moving to a record. Expectations that the Federal Reserve Board will
cut the Federal funds rate further, to bolster the economy, in the face of
unchanged policy rates at the European Central Bank (ECB) has led to renewed
weakness in the U.S. dollar.
    West Texas Intermediate (WTI) oil prices eased temporarily from US$74.15
per barrel in July to US$72.36 in August - pushed down mid-month by hedge fund
selling to raise cash. Prices subsequently strengthened to a record Nymex
close of US$83.32 on September 20, trading as high as US$84.10.
    "OPEC has been reluctant to boost output, believing that increased
production would only find its way into higher oil stocks rather than
increased supplies of refined products, given refinery constraints in the
United States and Asia," added Ms. Mohr. "However, at its September 11
meeting, as prices approached the US$80 mark, the OPEC-Ten (excluding Angola
and Iraq) agreed to lift sales by a modest 500,000 barrels per day on November
1, in a bid to prevent high oil prices from derailing global growth and in
view of recent financial market turbulence."
    Nymex natural gas prices edged down from US$6.40 per mmbtu (million
British thermal units) in July to US$6.14 in August. Prices were actually
boosted around August 17, as the funds bought back short positions to raise
cash. However, prices drifted down again to a low of only US$5.38 in late
August, before climbing back to US$6.92 in late September. Prices remain at a
low ebb, with more-than-ample U.S. natural gas-in-storage ahead of next
winter's heating season.
    While U.S. consumption has been relatively strong this year, with
increased use in electricity generation, U.S. LNG terminals have recently
operated close to full capability. Some LNG cargoes, normally bound for the
United Kingdom and Western Europe, were diverted to the U.S. market in the
first half of 2007, owing to mild weather and low gas prices in Northwestern
Europe. Despite a sharp decline in gas-targetted drilling activity and lower
Canadian exports forecast for 2008, U.S. prices may be capped next year by the
start-up of four new LNG import terminals off the coast of Louisiana and
Texas.

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