Perspective: Morning Commentary for February 10

February 10 – Fear levels as measured by the VIX rose to one-month highs overnight, as stock futures extended Thursday’s losses on Wall Street after Treasury yields rose to five-week highs. Yet, commodity prices rallied on ideas that shortages may return in 2023. The VIX is trading near 21 at this hour, after posting one-month highs near 22 earlier, as stocks showed signs of additional weakness. The dollar is trading near 103.4 on ideas that the Fed still has more work to do in slowing wage inflation. Yields on 10-year Treasuries are trading near 3.69%, after posting a five-week high near 3.72% earlier in the morning, while yields on 2-year Treasuries are trading near 4.48%. Crude oil prices are 1% higher on OPEC warnings of tightening supplies, while the grain and oilseed markets also traded mostly higher overnight on the shift in market focus.

OPEC officials warn that a return to $100 per barrel crude oil prices are possible this year as supplies tighten again. The resumption of demand in China post-Covid comes in a world when investment toward new well development is limited by ESG restrictions. Even OPEC struggles to reach its own quotas at times, limiting the ability of producers to respond to a resumption of demand. In fact, OPEC data suggests that its members are pumping 1 million barrels per day less than their combined targets. Furthermore, Russia says that the West’s recently imposed price caps will result in another reduction of its output by 500K barrels per day. Global demand is expected to rise by 2.2 million barrels per day this year, while overall output may only be able to fill 1.5 million barrels per day of the increase. Some analysts disagree with the tight stocks scenario, focusing on economic challenges that they believe will cut demand short, but the risks to the Federal Reserve’s attempts to tame inflation must be considered if the more bullish demand scenario would unfold. In reality, it all comes down to the speed at which China’s economy recovers, while also anticipating what might happen with the U.S. economy.

The economic signals continue to be mixed in China, with demand for many consumer items soaring, while demand for big ticket items remains depressed. I explained in yesterday’s comments how demand for big ticket items is largely driven by business owners, etc., who experienced financial difficulty over the past three years of the Covid restrictions and lockdowns. As such, that demand may take some time to rebuild. However, the average consumer remains anxious to create some sense of normalcy in life, traveling to see relatives and tourist sites, while also going out to eat more and to enjoy various forms of entertainment. That should give a boost to demand for food and energy demand, although it is still too early for the data to confirm such. However, the scope of demand growth for energy will also be dependent on a return of manufacturing capacity, which will likely be slower to occur.

We have to also keep our eyes on the risks associated with the Ukraine war. Ground fighting is said to possibly be as intense in some locations as at any time seen over the past year. Russia is also said to be gathering resources for an anticipated spring offensive. The West has committed tanks to Ukraine, with Ukraine also saying that it is brokering a deal for European Union members to contribute fighter jets and long-range missiles. Meanwhile, you have a high-ranking Russian official stating that there is no reason for a nuclear power to lose a major military conflict – that Russia has the tools necessary to ensure a victory. This war is not going away as a threat to global commodity trade, but rather the risks are increasing that this commodity rich part of the world may see more challenges in producing and shipping those commodities. The commodity markets largely erased the risk premium put into prices when Russia invaded Ukraine a year ago, which is a big reason why we’ve seen some easing of inflation. But we cannot dismiss the risk that the markets may need to reinstate at least a portion of that risk premium as the war escalates in the weeks and months ahead.

Money flow boosted commodity prices on Wednesday following the USDA crop report on ideas that demand may exceed supply in the coming year. Investment funds talked of building ownership in the commodities in 2023 based on the above scenario. That disappeared on Thursday, as traders resumed their recession fears, but it came back in overnight trade. As such, today’s close will provide some indication as we close out trade on the weekly charts. Crude oil prices are just above one-year lows, with the war premium removed. Grain and oilseed prices also lack war premium, with supplies rather snug. Brazil is harvesting a large soybean crop, which will be partially offset by a short Argentine crop that continues to get smaller. The bigger focus will soon be on Brazil’s bigger safrinha corn crop that is just going into the ground now, followed by spring Midwest planting conditions.