Central banks’ stance could impact commodity prices even more, going forward’

Ravindra Rao, VP - Head Commodity Research at Kotak Securities

Commodities have been stuck in a broad range for the last few days amid lack of any fresh triggers, and this may well hold till we see fresh developments relating to the Russia-Ukraine situation, China’s virus spread or the US Fed’s monetary policy stance.

The Russia-Ukraine war has been going on for more than a month now and there are no major efforts on to hold fresh talks. The US and other countries are increasing economic pressure on Russia by imposing more sanctions, fuelling concerns that Moscow may retaliate.

With no resolution to the Russia-Ukraine issue insight, supply risks for commodities might well resurface. Despite this, market reaction has remained subdued and commodity prices are well off their highs. The biggest factor weighing on commodities is a correction in crude oil prices.

Crude oil has slipped to a 3-week low as International Energy Agency (IEA) members announced an unprecedented release of stocks from emergency reserves to keep the market well supplied. The fear of an energy crisis in Europe has subsided as the European Union (EU), once again, refrained from imposing any direct restrictions on Russian crude oil and natural gas exports to the region. EU members agreed to a ban on coal imports from Russia. However, that will take full effect from mid-August.

On the China front, rising cases of COVID have forced authorities to impose tighter restrictions on the general public, while economic data points to slower economic activity, with a number of agencies downgrading the country’s growth forecasts. Asian Development Bank expects the Chinese economy to grow at 5 percent in 2022, compared with the previous forecast of 5.3 percent.

While concerns about the Chinese economy have dented the demand outlook pressurising commodities, expectations of additional stimulus measures have kept a floor to prices. Earlier this week, Chinese state media quoted the cabinet as saying it would roll out policies to stabilise market expectations in a timely way, without giving details, as reported by Reuters.

With no major development on the Russia-Ukraine front, we saw the market focusing more on central banks this week. FOMC minutes showed that the central bank is considering half-point rate increases and reducing its massive bond holdings at a maximum pace of $95 billion a month to get inflation under control. FOMC minutes coupled with hawkish comments from Fed officials pushed the US dollar index to May 2020 highs.

While gains in US dollar put pressure on commodity prices, gold and other commodities managed to hold ground, as market players assessed the US Fed’s stance in light of the monetary policy stance of other central banks as well as increasing growth concerns. Parts of the US bond yield curve have inverted, reflecting concerns about economic growth in the coming years in the wake of rising borrowing costs.

While the Fed has turned hawkish, Japan and China have maintained support for an accommodative policy to support growth. The European Central Bank (ECB) has taken a hawkish tilt but remains cautious. ECB monetary policy account showed policymakers are keen to unwind stimulus but uncertainty relating to the Russia-Ukraine fighting has forced them to take a cautious approach and not commit to the policy too far down the road.

Going ahead, Russia-Ukraine tensions seem unlikely to abate soon, while the outlook for the Chinese economy may remain shaky until the virus spread comes under control. This means that central banks’ stance may impact the prices of commodities more. The key event next week is the ECB’s monetary policy decision. We need to see if the ECB, like the Fed, takes a hawkish stance to control inflation or maintains a cautious approach amid persisting geopolitical risks.