STREET DOGS: Commodities cycle offers a rollercoaster ride from boom to pessimism
Optimism leads to a supply excess, usually worsened by demand that is weaker than expected
The four phases that make up the capital cycle in the commodities sector are the following:
Boom: The market environment is positive for the industry’s producers (supply), as there is an unsatisfied demand in the market, which causes a rise in the commodity prices and a return on the invested capital of the producers that is higher than its costs. The boom phase usually coincides with significant stock market gains of the companies in the sector.Optimism: The prospect of large returns attracts new capital, increasing the current supply, by exploiting areas with higher extraction costs (in the case of mining, for example, producing the lower-grade deposits, now profitable), and increasing the future supply, by developing new projects that will come into production years later. The industry’s discipline is lost. In this phase, companies usually trade at very demanding valuations, discounting all the good and very little of the bad to come.Depression: Optimism and lack of discip...