Perspective: Morning Commentary for December 12

By: Arlan Suderman, Chief Commodities Economist

Mon, 12 Dec 2022, 14:46

Perspective: Morning Commentary

Arlan Suderman

Chief Commodities Economist

December 12 – It’s Fed week on Wall Street, with traders focused on the Federal Reserve’s meeting on Tuesday and Wednesday. Ironically, we’ll get updated inflation data with the consumer price index before the Fed starts its meeting tomorrow morning, following a hotter-than-expected producer price index last week. Traders took note of China’s reopening, but also expressed concerns about the problems that may create as Covid rapidly spreads through the country in the near-term. The VIX is trading at a four-week high near 24 this morning, reflecting elevating fear levels on Wall Street once again, even though stock futures posted modest gains this morning. The dollar index is trading quietly near 104.8. Yields on 10-year Treasuries are trading near 3.53%, while yields on 2-year Treasuries are trading near 4.33%. Crude oil prices are 1% higher this morning after selling dried up overnight just above Friday’s 2022 lows. The grain and oilseed markets were mixed in early trade.

Covid restrictions are being lifted in China, and the virus is rapidly spreading. People are hoarding fever medicines, leaving store shelves empty in many cases. Lines are forming at hospitals seeking fever treatment. The lack of testing makes it difficult to get an idea of Covid’s spread currently. However, people within China report that the number of friends and relatives that they know who have Covid are increasing at a pretty good pace. Those who have Covid are supposed to quarantine at home under the new guidelines, but the hit on the healthcare system has begun. Unconfirmed reports within China suggest that healthcare workers who tested positive for Covid are being called back to work to handle the increased workload. Beijing is bracing for an explosion of Covid cases over the next one to two weeks, with other cities to follow. China’s top respiratory disease expert estimates that the virus will go through its cycle of moving through the population and creating herd immunity in the first half of 2023, which matches other estimates of a three to six-month cycle.

Today’s edition of China Direct, published by our Shanghai office, goes into more detail, but suffice it to say that China’s economy likely faces a rough stretch here over the next several months. Hong Kong already experienced this with similar demographics and vaccine usage patterns. Translating its results to the Chinese population would suggest that China’s healthcare system may need to hospitalize 167 to 279 million people, or 12% – 20% of the population, with 1.3 – 2.1 million casualties. That represents a mortality rate of roughly 0.1%, but it will still be a factor that China will have to work through. Keep in mind that Hong Kong’s healthcare system is likely more developed than areas of rural China. As a result, China’s economy will need a boost. China issued a special bond worth 750 billion yuan (US$107 billion) today, which suggests that more stimulus is likely coming, although that has not yet been confirmed.

The bottom line is that we could see much stronger demand for commodities in China – especially energy – in the last half of 2023 than in the first half. That has implications for the food-based commodities as well. The other piece of this equation is the dollar. The dollar is currently in a correction lower following its ride to two-decade highs earlier this fall. The currency markets reflect the market’s perception of which central banks are the most hawkish. The current market perception is that the Federal Reserve is transitioning to a less-hawkish policy stance, but currency traders will be monitoring comments coming out of this week’s meetings closely to see if that will still be the case going forward. Regardless, we’ll need to see how long the European Central Bank holds to hits current hawkish stance amid the ongoing challenges created by the Ukraine war in its backyard. The ECB was slower than the Fed at flipping hawkish, and I question whether it will be able to hold hawkish as long as the Fed as we head into 2023.

Another barrage of missiles directed at Ukraine’s power grid shutdown activity at Ukraine’s three approved ports over the weekend, but at least two of them are already operational once again. Nonetheless, this demonstrates the ongoing challenges in Ukraine, which are expected to result in slowing production and exports over the coming year. More rains fell across the majority of Brazil’s growing regions over the weekend, scattering into portions of northern Argentina, but the overall pattern remains the same. Crop production is challenging in Argentina, but generally going well in Brazil. The backdrop for this week’s commodity markets will be the Federal Reserve, which will release its updated policy statement on Wednesday afternoon. Soybean demand dried up as prices approached $15 last week, so now we’ll see how far Chinese buyers will allow them to fall before returning. They still have some gaps to fill ahead of the Brazilian harvest, but then demand should decline notably beyond that.

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