October 9 – It’s inflation week on Wall Street, but the trade’s focus this morning is on war, and it’s not the Ukraine war. Nobody is saying it, but commodity inflation was the overnight play, with money flowing out of the equities on the uncertainty of the Middle East war, and flowing into the commodity sector – primarily energy, but also the food commodities as well. Today is a bank / government holiday in the United States, which will impact trade of the Treasuries, and related markets, although we tend to see money flow into the relative security of the Treasury market during times of increased uncertainty. Nevertheless, we’ll be able to see these new geopolitical risks play out in many of the rest of the markets. Stock futures continue to be under modest pressure following Friday’s robust jobs report, which increased the risks that we’ll see a more hawkish Federal Reserve next month, pending this week’s inflation data.
Be careful not to read too much into today’s strength in the grain and oilseed markets until we get past the short covering in the food-based commodities, but energy traders are worried about the possibility of this war spreading to the point of disrupting supplies from key OPEC producers in the Middle East. The VIX is trading near 19 this morning, so fears are elevated, but we’re certainly not seeing panic on Wall Street. The dollar index is trading near 106.40 in early trade. Crude oil prices are more than 3% higher as the market puts war premium back into the market, although that’s down from the nearly 5.4% gains seen overnight. Meanwhile the grain and oilseed markets are mostly higher as well, although not with the same conviction as crude oil.
Hamas caught Israel off-guard on Saturday, rapidly infiltrating Israeli settlements in the Gaza Strip, killing hundreds of Jews, while taking dozens more hostage. It was the deadliest attack on Israel since Egypt and Syria mounted a coordinated attack 50 years ago, and it resulted in Israel declaring war for the first time in 50 years, with hundreds now killed on the other side as well, and thousands wounded. Why should this war matter to the markets? This war matters not so much because of any direct impacts at this point as much as all the proxy ties involved. Israel is rich with valuable minerals, but that’s not what concerns traders at this point. Instead, traders (primarily commodity traders) are concerned due to the location of this conflict in the Middle East. That’s an oil-risk region of the world, but anyone who has played the game of Risk also knows it is an extremely strategic portion of the world. The one who controls the Middle East frequently wins the game.
The war declared over the weekend essentially puts implementation of the Abraham Accord on hold, with Saudi Arabia now assessing its alliances. The United States previously had strong relations with both Israel and Saudi Arabia, putting it in position to negotiate peace in the region. The Abraham Accord sought to solidify that alliance. The U.S. is still a backer of Israel, but it no longer has the good relations with the Saudis. Instead, China has been fostering a peace relationship between Iran and Saudi Arabia, while many of the Arab members of OPEC have been negotiating entrance into BRICS as they strengthen relationships with both China and Russia. That changes the dynamics of this war and raises the risks of its spreading in the region in a way that could impact commodity trade with the West. Israel is focused on funding ties between Hamas and Iran and so it may extend some of its retaliation toward Iran. That raises risks that we could see oil flow from the region adversely impacted. We’re not at that point now, but traders added risk premium to crude oil prices overnight on the possibility. One thing is clear after this weekend – the world is less stable than it was on Friday. The risk is that the instability “may” morph into disruptions in commodity trade at some point, but I don’t see any panic in the food-based commodities at this point. However, energy traders will be watching how this war evolves in the days ahead.
China’s fall harvest is 48% complete, according to official data, and the results thus far suggest a bumper corn crop. Some local analysts are projecting a crop 10 to 15 million metric tons larger than previously thought, and possibly 8 mmt larger than the previous year’s crop, reducing the need for imports. Meanwhile, today’s forecast models are less encouraging for rains in Brazil’s Center-West region. Longer-term, the rising geopolitical risks don’t necessarily give traders reason to push grain and oilseed prices sharply higher at this point, but they can make fund managers less comfortable holding large short positions, while monitoring risks that could potentially unfold that could tighten supplies. I still believe that Thursday’s USDA crop report is the primary fundamental factor this week, but money flow related to the geopolitical risks will remain an influence.
