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Commodities Corner: What’s next for lumber as it looks to be 2022’s worst-performing commodity

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Lumber has the dubious honor of being among the biggest commodity price decliners this year, and the outlook for the market doesn’t look to improve anytime soon.

Random-length lumber for January delivery
LBF23,
-4.05%

LB00,
-4.05%

settled at $423.80 per 1,000 board feet on Nov. 29, down about 63% year to date.

“CME lumber futures have been, by far, the worst-performing commodity futures in 2022,” says Walter Kunisch Jr., senior analyst at HTS Commodities. The “lack of confidence in the U.S. housing market, amid the sharp rise in interest rates and mortgage rates, is creating headwinds and lackluster demand for lumber.”

U.S. new residential construction declined in October by 4.2% to a seasonally adjusted annual rate of 1.425 million, according to the Commerce Department. That is a sign of weaker construction activity as the housing market struggles with rapidly rising mortgage rates.

The Federal Reserve’s commitment to combat U.S. inflation, combined with tightening underwriting standards, is “scaring off would-be home buyers and has them running for the safety and comfort of the rental market,” Kunisch says.

The national average 30-year mortgage rate has softened over the past few weeks to under 7%. But the recent rate, at 6.78%, is still at “highs not see since December 2001,” he says. And lower domestic demand and strong U.S. lumber imports have been a “combustible cocktail” for U.S. lumber futures prices.

In October, U.S. data showed multifamily housing starts decreased by 0.5%, while single-family projects fell 6.1%. Multifamily starts require less total lumber, and they have also climbed as a proportion of total housing starts, contributing to lower lumber demand, says Scott Reaves, director of forest operations at Domain Timber Advisors.

U.S. residential permits, which can be a bellwether for future home construction, were at a seasonally adjusted annual rate of 1.526 million in October, compared with 1.841 million in January.

Lumber can be an “economic bellwether” for the U.S. economy, says Kunisch, and its negative price performance this year is likely indicative of a slowdown. The U.S. economy grew at an annual 2.9% pace in the third quarter, after posting two consecutive quarterly declines.

Domain Timber Advisors expects a downturn in lumber demand over the next two years or so, says Reaves. Demand may then start to increase as the millennial generation reaches homebuying age.

Even so, lumber isn’t likely to return to, or sustain, the recently achieved pricing highs, Reaves says. Lumber futures hit a 2022 intraday high of $1,477.40 in March, the highest since May 2021, according to Dow Jones Market Data. The new lumber futures contract, which launched in August and has a much smaller contract unit sizing, will eventually replace the legacy contract. It traded at $532.50 on Nov. 29.

In terms of supplies, Reaves says there has been an increase in lumber production facilities across the U.S. That higher production capacity may tighten log supply over the next five years, which “bodes well for timberland ownership,” he says. Owners would have the flexibility to sell their trees in times of high demand and curtail sales when demand is soft, he says.

The NCREIF Timberland Index, which consists of 466 investment-grade timber properties, saw a return of nearly 2.4% in the third quarter, up from 1.9% for the same quarter last year, according to the National Council of Real Estate Investment Fiduciaries.

Overall, however, lumber is facing demand-related headwinds while supplies and imports continue to be accommodating, HTS Commodities’ Kunisch says. Whether the imports are a function of a strong dollar or rebuilding depleted supplies, “slowing demand and increasing supplies are not a positive mixture” for lumber prices.

Outside the Box: The key word for investors to decipher the Fed’s next move is ‘moderation,’ strategist Ed Yardeni says.

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