The End of the Commodities Supercycle Focus on Oil, Copper, Iron Ore and Gold:: Citi

 Citi expects 2013 to be the year in which the death bells ring for the commodity supercycle after its duly noted sunset,
ushering in a new decade of opportunities based on how individual commodities will perform against one another
and against broader market indicators such as equities or currencies. It will be a period of focus on unique individual
commodity cycles and new relations emerging between and among commodities and other asset classes from fixed income to
foreign exchange to global equities.
 The downward shift in China's economic growth rate combined with the decline in the commodity intensity of growth
have a permanent and profound impact on global markets. China has reached a new phase, less focused on infrastructure
and urbanization, both of which are highly commodity intensive. Lower single-digit economic growth shifting to a greater
emphasis on consumption rather than investment hits industrial metals, bulk commodities and to a lesser degree energy
demand.
 The recent separation of commodities from equity markets is in many respects a return to normalcy, given the
sensitivity of commodity prices to coincident conditions and of equities to anticipatory economic changes.
 The denomination effects of changes in the relative value of the US dollar is likewise going to continue to impact
commodities, and Citi’s long-term bullish view of the US dollar is likely to place an even further drag across the asset class this
year. But to the degree that commodity-producing countries depend on specific commodity exports, differentiated conditions
should impact the FX values of different commodity currencies in varied ways as well, providing further opportunities for
investors.

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Overview
 This year should provide full affirmation that the commodity supercycle has finally ended and should usher in the first “normal” year in over a decade in which, broadly,
commodity prices end the year lower than when the year started. As Citi’s metals and mining team noted, the Commodity Supercycle Sunset appeared on the horizon
shortly after the recovery from the 2008-09 recession and the Supercycle Funeral started to be celebrated in 2011, with 2013 perhaps ushering in a Supercycle Funeral
Afterparty in which investors could start reveling in new opportunities; taking advantage of rapidly unfolding commodity diversification.
 The first quarter provided a clear precursor of what’s likely to come – the majority of commodities saw prices fall across the board, and those that rose did so for
commodity-specific reasons: US natural gas brought the highest returns of any commodity for the first time in a half decade on the temporary stall in production growth and
a measurably colder winter, ending 1Q with a solid month of unusual residential/commercial and power demand; cotton prices rose sharply as well, partly in response to
the 18% drop in 2012 but largely on the basis of uncertainty about Chinese buying ahead of reduced plantings; US gasoline rose to record winter levels largely as the
residual impacts of 2012’s shuttering of Atlantic Basin refining, a significant collapse in Venezuela’s refining system (which turned the country from being a structurally long
exporter to a structurally short importer of the key transportation fuels), and of course because of the devastation of Hurricane Sandy on the US East Coast; and US-based
WTI was finally a winner due to de-bottlenecking of logistic systems in the US while waterborne crude stream markets remained firm.
 For the next few years, each commodity looks more likely to be sitting on its individual supply/demand fundamentals than on more general factors affecting all of them.
This means that as either their separate long-term and short-term cyclical logistics take over, for some prices will rise while for others they will decline, and investors across
commodities will be able to take advantage of alpha return strategies focusing on long versus short positions, other relative value relations across the commodity space as
well as across time spreads, changes in momentum and volatility.
 Differentiation among investment cycles is likely to become more pronounced over the next few years as well, with deferred investments in oversupplied copper and other
base metals markets today turning into tight markets a couple of years down the road, while the downward march of costs in North American and global gas and rising
demand maintaining the production boom of the last half decade for perhaps decades to come.
 The supercycle decade focused investor attention on supply conditions and prices provided an opportunity for rewarding returns both for commodity producers and for
financial investors who, for the first time in history, were able to gain exposure to underlying commodity values without the inconveniences of holding, storing and exposing
commodities to degradation and spoilage.
 In the decade ahead, we believe investors will need to gain a greater understanding of demand conditions. Shifts in underlying investment patterns in China and other
emerging markets are a critical source of change for aggregate consumption as China and other EM growth shifts from more commodity-intensive fixed asset investments
and industrial production growth to household-based and service sector growth. But policies are likely to move in the same direction as subsidies for food and fuel come
under fiscal pressures and as environmental policies play a role.
 As Citi’s energy commodities strategy team has pointed out, significant underlying trends are underway that are bringing the once unimaginable drop in oil demand into an
attainable global reality. A recent study by Quantum Reservoir Impact, Inc. shows that in 2011, the US consumed some 3.11-billion barrels of gasoline (8.5-m b/d) with an
average fleet efficiency of 23 mpg and with no electric vehicles. Under new Obama administration fuel efficiency standards, that level of consumption might drop to 1.74-
billion barrels (4.77-m b/d), with a fleet efficiency of 40mpg if electric vehicles reached 20% of the fleet (even in the face of an increase in the vehicle fleet from 251 million
to 305 million) by 2025. That’s a drop of 3.73-m b/d or 44%.
 But the real challenge to oil’s dominance of the transportation fuel market comes from natural gas, and the challenge is not only in the US but in global markets. A recent
Citi study has shown that up to 20-million b/d of petroleum product demand could be challenged by natural gas in a decade, and about half of that is LNG substituting for
diesel demand in truck and rail use in the OECD and of bunker fuel in global markets.