Looming fears of recession and lingering COVID woes in China may keep commodities subdued

Ravindra Rao, VP-Head Commodity Research at Kotak Securities

Commodities' rally paused this week after an initial euphoria as mixed economic data from the US and hawkish commentary by some FOMC officials clouded monetary policy outlook.

Hopes of Fed going easy on rate hikes intensified after US producer price index (PPI) increased less than expected 8.0 percent for the 12 months through October compared with September's 8.4 percent increase, following cooler CPI figures released last week.

However, better-than-expected US retail sales figures and Fed officials hinting that monetary policy is not sufficiently restrictive yet added to the ambiguity of Fed's next interest rate decision and helped dollar recover from three-month low levels of 105.75.

COMEX Gold and Silver hit fresh three-month and five-month high of $1791.8 per troy ounce and $22.38 per troy ounce, respectively, earlier in the week post US PPI report and geopolitical tensions after a suspected Russian missile attack on Polish territory. However, safe haven bets subsided after NATO and Poland’s leaders implied that the missile strike may have been caused by a Ukrainian air defense missile and saw no indication that the missile strike was an intentional Russian attack.

WTI and Brent Crude oil prices have slipped by 7-8 percent this week to two-month lows below $82 a barrel and $90 a barrel, respectively, as demand concerns outweighed supply side disruptions. Restart of Russian oil flows via Druzhba pipeline coupled with easing geopolitical panic after NATO stated missile attack on Poland was not Russian eased any immediate supply related distress.

Rising COVID cases in China along with reports that several Chinese refiners have asked Saudi Aramco to reduce December-loading crude oil volumes, pointed towards weaker consumption outlook in the world’s biggest importer. Also, modest downward revision made by OPEC to both 2022 and 2023 demand growth projections citing economic challenges in Europe and China’s still strict COVID policy highlighted demand woes.

Base metals too have been weighed down as COVID cases hitting seven-month high in China and mixed signals by US economic data have added to macro-economic stress. Supply disruptions at major Copper mines namely, Escondido and Las Bambas in Chile and Peru, respectively, have been unable to provide a cushion to LME Copper, which slipped below $81,00 per tonne from five-month high of $8,600 per tonne touched earlier in the week.

Now, rising COVID cases in China may continue to threaten stable economic rebound although the mainland nation removed limits on numbers of people allowed at theatres and events such as concerts and music festivals in low-risk areas without outbreaks. Besides, major cities in China discontinue mass testing amid growing public outrage against the restrictions and hence may lead to reporting of lesser cases.

However, investors may still refrain from taking bigger bets considering the looming fears of recession and repeated signals by Fed officials that interest rates would continue to rise unless there is a persistent decline in inflation. US 2-year treasury yields currently stand at 4.473 percent, 68 basis points above 10-year yields at 3.79 percent, showing the largest inversion since 1981 and hinting towards an impending recession.

FOMC meeting minutes would be closely read for detailed views of FOMC officials while Manufacturing and Services PMI may provide earliest hints on the economic activity in major global nations in November.

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