We don’t have any particular insights into the geopolitical or macro impacts of Russia’s invasion of the Ukraine. Today’s events seem to run counter to conventional wisdom that Putin was saber rattling, and our hearts and prayers are with the people of Ukraine and the soldiers on the ground.
From a supply perspective, Russia and the Ukraine are major exporters of oil, natural gas, coal, wheat, and certain metals, particularly palladium where Russia comprises almost 40% of global refined supply but also aluminum and nickel. Russia is also a major producer and exporter of enriched uranium.
Most immediately, the challenge for many of these markets is that above ground inventories are already very low and supply deficits were emerging given the lack of capital investment made in most upstream commodities over the last five to ten years.
The issue is particularly acute in Europe, which relies on Russia for natural gas as the result of a series of misguided policy decisions which we discussed here. Fortunately, we are through the heart of winter, but inventories are well below historical norms.
It is also likely that many power-intensive industries in Europe will have to further curtail production to balance the energy markets, reinforcing and propagating the supply issues. Across many commodities, western sanctions could further exacerbate these imbalances, although for oil, it is unclear what will happen with the “OPEC+” arrangement which has so skillfully managed the market for the last few years.
At least in the short term, higher commodity prices seem certain, as there is a long history of commodity price spikes related to geopolitical events.
Of course, the offset to supply deficits and higher inflation is the potential for a meaningful slowdown in the global economy. Neither consumers nor producers benefit from rapid increases in commodity prices.
Related to natural resources and the Energy Transition, we believe that there are five main implications from recent events:
It’s impossible to forecast how the current situation will pan out, and our strongest hopes are for a fast, peaceful resolution. However, it is equally impossible to conclude that the risks of escalating geopolitical tensions, with all of the concomitant outcomes discussed above, aren’t rising.
In summary, we believe recent events increase the likelihood of stagflation, an outcome we believed was already probable given the consequences of prolonged capital constraints on new supply, the material requirements of the Energy Transition and the post-stimulus hangover facing the global economy.
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