Commodities Weekly

What the hottest summer on record and the energy supercycle have in common

 

Global commodities

The World Meteorological Organisation has confirmed that the start of the summer has been the hottest on record, and that extreme temperatures are the new normal in a world warmed by climate change. This breeds questions surrounding the long-run outlook of conventional energy sources on the path towards decarbonisation. Whilst the first order implications from decarbonisation for the long-term fossil fuel outlook is clearly negative, we believe that decarbonisation in itself is in fact near-to-medium term bullish for fossil fuel prices. At the heart of today’s energy crisis and inflationary pressures is underinvestment, with elevated fossil fuel prices a signal of their relative scarcity – global fossil fuel investments remain ~40% lower than in 2014, yet they represent a colossal 77% of overall primary energy supply. Granted, investments in green energy have encouragingly grown, but the green revolution is simply too nascent for green capex alone to drive global economic growth without fossil fuel investments. Put differently, the old carbon economy still needs investment until the green transition is complete, otherwise the global economy risks hitting capacity constraints on growth. This call for capital is not new, occurring in the 1970s, 2000s and now again in the 2020s – yet this cycle is likely to be far more disorderly and prolonged as ESG investing (fairly) influences capital flows needed to stimulate the next round of investment. Long-run inadequate production capacity supply issues take years to resolve and thus, we are convicted that the global economy will be dealing with an underinvested decades-long supercycle – defined as a capex cycle in which physical constraints on growth create physical pricing pressures – with price overshoots being the new normal (see here).

 

Energy                                                                                                       

Oil continues to flirt near the USD80/b handle, with weaker-than-expected Chinese GDP data released this week offset by Russian seaborne crude flows falling to a six month low as well as an anaemic economic picture in the US that’s led to a dialling back of Fed rate hikes. Meanwhile, European (TTF) and US (Henry Hub) prices are rising as extreme heat is driving up power demand for cooling.

 

Base metals

Post-CPI US dollar weakness has driven an increase across the base metals complex but optimism around a bounce in growth of global manufacturing alongside another half year of potentially weak Chinese economic activity, remains the missing elements to drive a sustained rally near-term.

 

Precious metals

Gold is hovering around the highest level in two months with expectations that the Fed will pause rate hikes after its upcoming meeting next week. Meanwhile, the outlook for platinum group metals (PGM) is brightening with palladium set to gain traction on structural supply challenges and platinum’s prospects are improving with auto demand expanding on increased substitution for more expensive palladium.

 

Bulk commodities

Iron ore is rebounding on hopes Chinese authorities will step up stimulus efforts after Q2 GDP growth data missed expectations. In another positive sign, iron ore inventories at Chinese ports continue to decline and are at the lowest level since late 2020 (due to demand resilience and plants maintaining a low inventory strategy).

 

Agriculture

The Black Sea Grain Initiative expired on 17 July with Russia not willing to agree on a further extension of the deal. While the end of the deal is supportive of grain prices – given that Ukraine was expected to make up ~10% of global corn exports and ~5% of global wheat exports – we do not believe it will mean significantly higher prices given ample supply growth elsewhere this season.

 

Core indicators

Price performance and forecasts, flows, market positioning, timespreads, futures, inventories, storage and products performance are covered in the report.