Tensions at the Russia-Ukraine border are adding fuel to a decade-long commodities supercycle. Kim Parlee speaks with Hussein Allidina, Head of Commodities, TD Asset Management about the impact on commodities from a potential Russian invasion and the likelihood of $100 oil.
Sure. Thanks, Kim, for having me. So as far as we know, there is a pretty large accumulation of Russian troops near the border of Ukraine. It's of particular concern to commodity markets, given the importance not only of Ukraine, but more importantly of Russia to a host of different commodities, including natural gas, including oil, some of the metals, some of the ag commodities. It's really the breadbasket of the region and a lot of potential supply at risk if the situation there intensifies.
And when the potential supply is at risk, I assume if something was to happen and then sanctions were put on, that puts a stop to some of that supply coming to market.
Yeah, so Russia is the world's largest exporter of natural gas. Second largest exporter of oil. Third largest exporter of coal. A lot of the oil and natural gas flow through Ukraine. So it's an issue around sanctions, potentially. But Russia could potentially reduce flows like they have at times before into Europe. So a big concern for Europe, where gas and power prices are already quite elevated and potential concern for oil as well, given the relatively low level of inventory and spare capacity that we have globally.
Well, let's just kind of take each commodity then and just talk about the potential impact. You mentioned oil and gas, obviously what can happen there. Russia is, I believe, the plus in OPEC+. Do you think we could see a big spike in oil prices due to this specific issue?
Yeah. If there is a production disruption, there definitely could be material upside to oil prices from here. Kim, we've talked before about how tight the oil balance is both today and expected to be, given the lack of investment. Inventories drew last year by 700 million barrels through the course of the year. So, inventories today are sitting at pretty low levels. And we have very little spare capacity from that OPEC+. Any incremental production disruptions could prove to be meaningful. Last night, as an example, we had a pipeline fire in Turkey and oil prices rallied two dollars overnight on that news. That's a relatively small disruption relative to what we're talking about in Russia, Ukraine. So quite a bit of potential upside on the heels of any disruption.
We'll get into oil in a little more detail in a few minutes, but I just want to run through more of the Russian-Ukrainian packed coal. I know Russia is a big supplier of coal at the same time and coal has been surprisingly buoyant in the past little while, too. I'm assuming because of supply issues overall.
Yeah, absolutely. And look, I don't know that a disruption would necessarily result in less coal leaving Russia. But any strength in natural gas prices will prove supportive for coal on the margin because you'll see substitution like we've been seeing through Europe. And remember, the backdrop here is already very, very high. Natural gas, coal, power prices globally, particularly in Europe. Any incremental disruption is going to be frankly destructive, I think.
What about precious metals and base metals, where do they fit into this?
Sure, good question. So Russia does produce quite a bit of aluminum, some zinc and the higher power prices there and globally have restricted supply in those markets already. So there is additional risk if there is sanctions, if we were to place sanctions on Rusal, for example, Ali prices would probably respond positively. And on the precious metals front, Russia is a large producer of palladium and platinum, and part of the reason why I think you're finding support in those markets as well. The market is embedding some risk premia. No supply has been disrupted as yet. But given the tight level of balances across the commodity space, we can't really afford any disruption and I think some of that is being priced in now.
Usually it's the hard commodities that get the headlines, but we're talking about the soft commodities, too. The ag side of things. Do you see an impact there?
Again, potential impacts could be significant. Wheat prices in particular. Ukraine is the breadbasket of the region. Russia is a huge exporter of wheat. Again, it's all speculation. But if production or if sanctions were imposed and that did lend to a reduction in supply from those markets, the commodity markets broadly, and I don't mean to be repetitive here, but you're running on relatively tight balances across the commodity space, maybe with a few exceptions. And really, we can't afford any incremental disruption should they materialize.
It's not that we usually delve into politics on this, but it does look as though that Russia has a little more leverage in this situation too, just because of the amount of supply they bring to market on all of these.
Yeah. And I think that's part of the reason, Kim, why the US and Europe have not really been able to agree on how to respond to this potential threat. The impact on the European consumer already burdened by record high natural gas and energy prices is only going to be exacerbated if the situation with Russia does turn for the worse.