Hedge fund says shorting China commodities 'very compelling'

[HONG KONG] The bubble may be about to burst for commodities pumped up by China's efforts to reform its steel industry, presenting a compelling opportunity for investors to sell, according to hedge fund Academia Capital.

While speculative buying has boosted raw materials from iron ore to zinc, those gains may reverse as growth slows into 2018, according to Ivan Szpakowski, chief investment officer at the hedge fund. Mr Szpakowski predicted oil would be the "trade of the year" in January 2016, just before Brent prices slumped to a 12-year low and then doubled to end the year near US$57 a barrel.

"The most compelling development over the next six months is likely to be the unwinding of the boom in some of the China leveraged commodities," said Mr Szpakowski, a former head of commodity research at Citigroup Inc. "There might be a little bit more room to run to the upside, but we're soon going to be peaking for commodities like iron ore, zinc and palladium and I think those are going to become very compelling short stories going forward." China, the world's biggest steel producer, shuttered some illegal mills earlier this year and will trim capacity further during the winter months to curb pollution. Rebar futures have climbed to a four-year high, while zinc has surged to the strongest level in almost a decade. Iron ore has advanced about 30 per cent from its June low and coking coal is approaching US$200 a metric ton.

Commodity prices are vulnerable to "huge potential impact" after positive speculative positioning shifts, according to Mr Szpakowski. Chinese growth is likely to slow after China's Communist Party congress later this year, and weaken further in 2018 as the real estate market softens, he said.

As for Brent oil, the global benchmark crude that is trading near US$52 a barrel in London, about 9 percent lower than its 2016 close, Mr Szpakowski said it's a less interesting investment: "You can make arguments for moves either way, but it doesn't look like a compelling trade."

BLOOMBERG