Resources, particularly commodities like oil, natural gas, metals, and agricultural products, tend to do well in the stock market under specific conditions:
Economic Growth: When economies are expanding, demand for resources increases, boosting prices and the stocks of companies in the sector. Below are some reasons for the popularity of resources during this period.
a) Increased Demand: Economic growth typically leads to higher demand for raw materials and resources, such as metals, oil, and agricultural products. As industries expand and consumer spending rises, the need for these resources increases.
b) Higher Prices: With rising demand, the prices of commodities often increase. Higher prices can lead to increased revenues and profits for resource companies, boosting their stock prices.
c) Investment in Infrastructure: Economic growth often spurs government and private investment in infrastructure projects, which require significant amounts of resources. This can lead to increased consumption of materials like steel, cement, and energy.
d) Market Confidence: Economic growth typically boosts investor confidence, which can drive up stock prices across various sectors, including resource stocks.
Inflation: Inflation can be beneficial for resource stocks for the following reasons:
a) Rising Commodity Prices: During inflationary periods, the prices of commodities often increase. Resource stocks, which are linked to the prices of these commodities (like oil, metals, and agricultural products), can benefit from higher revenue and profits.
b) Hedging Against Inflation: Investors often view commodities and resource stocks as a hedge against inflation. As the value of money decreases, tangible assets like resources tend to hold their value better, attracting more investment to these stocks.
c) Increased Production Costs: While rising costs can be a challenge, they can also lead to higher selling prices for resources. Companies that can pass on these costs to consumers may maintain or increase their profit margins.
d) Demand for Hard Assets: In an inflationary environment, there is often a greater appetite for hard assets. Investors may shift their portfolios toward resource stocks as a way to protect their investments against currency devaluation.
Supply Constraints: Events like geopolitical tensions, natural disasters, or changes in regulations can disrupt supply, leading to higher prices.
Weak Currency: A weaker US dollar can make commodities cheaper for foreign buyers, increasing demand and potentially driving up prices.
Monitoring these factors can provide insights into when resource stocks might perform well.
Lauren Hua is a private client adviser at Fairmont Equities.
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