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Four of the scariest words an investor will ever hear are: this time it’s different.
Most of the time, it’s not different. But because they think it is, they fall into traps, manias and bubbles.
But sometimes"”very rarely, but nonetheless sometimes"”things really are different.
And that’s what Jeremy Grantham, of the $100 billion-plus GMO fund, thinks. Resources, he argues, are running out.
Mr. Grantham is worth listening to primarily because he’s one of the guys who has during the past couple of decades of investment manias consistently pointed out things aren’t different. Things weren’t different during the tech and telecom bubble, he argued. Nor were they different during the U.S. housing bubble.
But, things really are different now with respect to commodities, he writes in his latest quarterly note to investors. Resources face a paradigm shift.
Global populations are expanding fast and the expectations people have for quality of life is increasing even faster, but the growth in efficiency with which resources are extracted or food is produced is slowing.
The rapid gains in quality of life since the start of the industrial revolution that people have grown to expect aren’t a given for the future.
The trend in commodity prices since the start of the 20th century has been relentlessly down. By 2000, an index of 33 equally weighted commodities was priced at little more than a tenth of where it was at the start of the century, representing an average annual decline of 1.2% in real terms, according to GMO research.
But over the past decade, the price of these commodities has leapt dramatically and, in real terms, is near the highs witnessed during the first and second world wars and the 1970s oil shock.
The probability these price trends are part of the normal volatility around a falling trend are unlikely, according to Mr. Grantham’s analysis of individual commodity prices.
His conclusion is that the downward trend in commodity prices has come to an end. Supply is becoming more expensive just as demand is picking up.
Is he right, though?
Certainly, commodity prices have been astonishing for their strength during the past decade, and especially during the past year. Some commodities, particularly hydrocarbons, have become more expensive to extract and are likely to run out (at least at reasonable cost) sometime in the not too distant future. Replacement sources have their problems, while innovation is proceeding relatively slowly.
But there’s a problem with Mr. Grantham’s thesis.
A bet on commodities is a bet against human ingenuity, as Societe Generale strategist Dylan Grice once so pithily put it.
China’s and India’s development may be using up huge amounts of natural resources, but it is also developing a huge base of human capital.
China has become a global force in engineering. Ever increasing efficiency in the use of expensive resources is key to capitalist business models and as China becomes ever more profit-driven, it will become an ever more important contributor to developing better ways of using what we have.
India, meanwhile, is slowly shaking off its sclerotic bureaucratic way of doing things. Its agriculture is woefully inefficient. But as it too becomes more dynamic, so it will be better at feeding its own population.
Global warming may well be a serious problem, as Grantham argues, but we don’t quite know how it will play itself out, whether it will increase the productive potential of what are currently marginal lands even as it decreases it elsewhere.
Recent weather anomalies have sent agricultural commodity prices soaring. But farmers are very fast at adapting to price signals. At the same time, a growing acceptance of genetic modification could well inspire a second green revolution, triggering another round of rapid growth in crop yields even as it becomes more environmentally friendly.
Mr. Grantham gives, I think, too little weight to the degree to which commodity prices have been distorted by central bank monetary policy and to which they reflect speculation. We won’t really know how much until monetary policy starts to normalize.
He may be right to argue that the pace of relative commodity price declines has slowed or even come to a complete halt. But that it has reversed dramatically during the past decade is, I think, a leap too far.
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