Market Outlook

Spring Market Outlook:

Shifting Gears

By Matthew Naeyaert, GreenStone Capital Markets Senior Credit Analyst

The Russian invasion of Ukraine delivered global markets a monumental shock of uncertainty and volatility in the first quarter of 2022.

Following its military action, Russia has been the target of coordinated sanctions from countries around the world including the United States (US), the European Union (EU), the United Kingdom (UK), Canada, Switzerland, Japan, Australia, and Taiwan. The Russia-Ukraine conflict’s impact to global economies is widely expected to be that of slower economic growth and higher inflation, while the ultimate magnitude of the shock remains highly uncertain and dependent on the path of conflict. The combination of Russia’s status as a top oil and natural gas producer, the Russia/ Ukraine region’s standing as a major exporter of agricultural commodities, and retaliatory international sanctions have resulted in considerable pressure on global commodity markets. Following the late-February invasion, oil prices surged to over $130 per barrel in early March after beginning the year at roughly $80 per barrel. This initial price increase was the result of a negative supply shock provided by the sanctions from the US, the UK, and the EU which were focused on reducing the imports of Russian oil and liquified natural gas. Russia accounts for over 10% of global oil and natural gas production, so the sharp contraction of its exports from global markets has a significant impact on the overall market’s supply and demand dynamics. Global agricultural markets have not been spared from the volatility as grain prices have experienced significant increases since Russia invaded Ukraine. Wheat markets have experienced the greatest run-up as Russia is the world’s largest wheat exporter and Ukraine is the fifth largest, with the two countries combining to account for over 26% of global wheat exports. Heavy sanctions on Russia from western economies and the indefinite closure of Ukraine’s ports have combined to create a substantially negative supply shock, pushing wheat futures prices up over $12.00/bushel in early March (up 50%+). The supply side of the wheat market has limited ability to respond to the current price dynamic due to the timing of the growing season. The 2022 U.S. winter wheat crop was already planted last fall; therefore the north hemisphere’s ability to fill the supply hole cannot be realized until the 2023 crop is planted this upcoming fall. The ongoing supply disruptions from the Russia-Ukraine conflict have also impacted global corn and soybean markets. Corn prices have endured significant increases, rising in the first week of March to over $7.60/bushel (~16% increase). Ukraine is the fourth-largest corn exporter and represents 15% of global exports. Soybean markets reacted similarly, although the price increases from February to March were more subdued with a roughly 9% jump to just under $17.00/bushel. The conflict’s impact to global soybean markets was less significant, comparatively, due Russia and Ukraine representing just 2.1% of world soybean exports. Future price movements in grain markets will be highly dependent on the path of the conflict and the supply response from large export countries, such as Brazil, the US, and Argentina. Market participants will be closely monitoring the “ The ongoing supply disruptions from the RussiaUkraine conflict future flow of agricultural goods from the Russia-Ukraine region as have also impacted well as the planting intentions and crop conditions across the northern global corn and hemisphere over the upcoming crop year, in an attempt to quantify soybean markets. the supply side of the equation. In addition to the supply shock felt by global grain markets, the war in Ukraine and resulting economic sanctions on Russia are providing added volatility to an already stressed global fertilizer market. Prior to Russia’s invasion of Ukraine, fertilizer prices were already at elevated levels due to supply chain bottlenecks and high input costs. Russia is the second

Russia is the second largest potash producer, top exporter of nitrogen, and third-largest phosphate exporter, therefore any disruption to its ability to produce and ship these products results in higher fertilizer prices for agricultural producers around the globe.

largest potash producer, top exporter of nitrogen, and third-largest phosphate exporter, therefore any disruption to its ability to produce and ship these products results in higher fertilizer prices for agricultural producers around the globe. In early March, Russia’s Ministry of Industry and Trade recommended suspending the export of fertilizers until normal transportation services in and out of Russia are resumed. Subsequently, the Bloomberg Green Markets North American Fertilizer Price index rose 10% on March 4th, the day of the Russian Ministry’s statement. While a firm ban on exports is not currently in place and the final impact to fertilizer markets is still uncertain, US and global producers should brace for higher fertilizer costs in 2022. Shifting to general economic conditions, the US economy ended 2021 on a strong note with gross domestic product (GDP) growing at an impressive 7.0% annualized rate in the fourth quarter, according to the US Bureau of Economic Analysis. The rise in GDP was due to increases in private inventory investment, exports, personal consumption expenditures, and nonresidential fixed investment. GDP growth accelerated in the fourth quarter as the data came in well ahead of the 2.3% annualized growth achieved in the third quarter. In total, for the full calendar year of 2021, the US economy realized a 5.7% increase in annualized GDP, representing the highest annual growth rate since 1984. Despite the strong finish to 2021, the US economy entered 2022 with a notable level of uncertainty due to a variety of factors including the impact of the Omicron COVID-19 variant, less fiscal support provided by the Federal Government as COVID-era programs fade away, and the expectation of a less accommodative monetary policy by the Federal Reserve. Additionally, the recent geopolitical crisis stemming from Russia’s invasion of Ukraine has provided yet another headwind to global economic growth. Due to the significant level of uncertainty provided by all of these factors, forecasting the path of the US economy is incredibly difficulty; however, the one consensus view from economists across the country is that 2022 GDP growth will lag that which was achieved in 2021. Inflation continues to be a hot topic in the US economy as the US Bureau of Labor Statistics (BLS) reported the Consumer Price Index (CPI) increased in February by 0.8% for the month and over the last 12 months, the index had increased by a total of 7.9%. Rises in the prices for gasoline, shelter, and food were the largest contributors to the CPI increase in the February report. The CPI’s 12-month increase has been steadily rising and is now at the largest level since January 1982, when the US was in a recession and trying to control doubledigit inflation. The Federal Reserve has signaled it will attempt to tackle the soaring level of inflation, beginning at its March 2022 meeting. The Fed will open its playbook with an interest rate hike of 0.25% and is anticipated to continue with rate increases at future meetings in the coming year. The bond market currently has priced-in the equivalent of seven 0.25% rate increase for 2022, but the Fed has stated it will proceed cautiously with future hikes as it closely monitors inflation, strong demand, a tight labor market, and geopolitical risks from the Russia-Ukraine conflict. In addition to interest rate increases, the Fed will conclude its bond buying program with a final round of $16.5 billion in mortgage-backed securities purchases in March. Beyond the conclusion of purchases, it is expected to Fed will finalize a plan to begin reducing the size of its $9 trillion asset portfolio, which consists of Treasury bills and mortgaged-back-securities. The combination of higher interest rates and the reduction of the Fed’s balance sheet will result in a significantly less accommodative monetary policy for the US economy in 2022. In the end, the Federal Reserve will be attempting the incredibly difficult task of slowing the pace of inflation without tipping the US economy into a recession. ■