Going Soft on China’s Commodity Demand

(WSJ) – In China’s boom years, everything from copper to soybeans benefited from turbocharged demand growth. Now that the economy is slowing, investors need to take a more nuanced view.

March’s trade data points the way ahead. A return to surplus for the trade account reflected rusty demand for metals. First-quarter imports of iron ore were up just 6% in volume from a year earlier, compared with an average of 17% growth in the past five years.

Creaking growth in demand for metals makes sense. China is shifting gradually out of the heavy-industry phase of development, and so much infrastructure and housing has already been built that some demand has already been borrowed from the years ahead.

Energy is a different story. Crude-oil imports up 11% in the first quarter, in line with a 12% average for the last five years, are a reminder that fuel demand should be relatively robust through China’s slowdown.

To see why, look no further than China’s gridlocked city streets. The country’s car fleet is expanding, with 18.5 million autos added to the total in 2011 alone. Even as growth in industrial demand for fuel fades, transport demand will take up some of the slack.

Demand for agricultural commodities is even more solid. China’s growth is slowing, but it will be increasing underpinned by richer households and stronger domestic consumption.

As wages rise, the first item on households’ shopping list is a higher-protein diet, and that means more imports of soybeans and corn. Soybean imports were up 22% in the first quarter, above a 14% average for the previous five years.

A look at the trajectory of commodity demand for China’s neighbors supports the argument. Andrew Batson, an analyst at China research firm GK Dragonomics, looked at China relative to Japan, Korea, and Taiwan when they were at the same level of development. If China follows a similar path, growth in metals demand is set to fall in the years ahead, while energy and grains stay strong.

Investors have grown used to girding their portfolios with bets on China’s sturdy demand for metals. But to continue profiting from China’s commodity consumption, the best option is to go soft.

By TOM ORLIK