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The Russian invasion of Ukraine has shaken up the world across several dimensions. Between the loss of life and destruction of Ukrainian infrastructure, it has been extremely unsettling for us to watch and absorb. Beyond Ukraine, the Russian invasion has affected many parts of the global economy, in particular the global supply chain of key commodities. Our team takes a deep dive into what this war could mean for global supply chains and potential problems surrounding the supply and export of key commodities including gas and oil, autos, semiconductors, food and fertiliser.
- Global Supply Chain Woes: Inflation pressures were already elevated heading into 2022, and the Russia/Ukraine war is creating additional concerns. Energy pressures are well documented, but other areas such as autos, semiconductors, food and fertilisers will also be deeply impacted by the Russian/Ukraine war.
- Global Macro Implications: We are facing rising inflation, slowing demand and a precarious policy environment. Inflation and growth impacts are expected to be felt more acutely in the European region, given stronger trade ties to Russia.
- Multi-Asset Considerations: We are less constructive on equities and have a bearish view on eurozone equities. We continue to prefer inflation-linked bonds and remain cautious regarding duration exposure.
Global Supply Chain Woes
Energy: Many countries are attempting to move away from Russian energy imports despite such high global exposure. The United States has enacted a total ban on Russian energy imports, while the United Kingdom and European Union (EU) have announced plans to significantly decrease Russian energy imports by year-end. This will take time given how large of a customer the EU-27 is for Russian energy. Energy commodity curves have moved into steep backwardation as a result.
- Russia accounts for 2% of global gross domestic product (GDP), but accounts for 12% and 17% of global oil and natural gas production, respectively.1
- The EU depends on Russia for 40% of its natural gas. Russia also supplies 27% of the 27-country bloc’s oil imports, and 46% of its coal imports.2
- The first European move away from Russian oil resulted from Germany suspending the certification process of the Nord Stream 2 Baltic Sea gas pipeline, which finished construction in September and would have nearly doubled the flow of Russian gas into Germany.
- Ahead of Russia’s invasion of Ukraine, European spot gas prices had risen 400%3 over the previous year (as at 23 February) due to the global reopening and significantly cold winter across Europe.
Autos: The war in Ukraine has created a parts shortage that has now forced automakers to shut down key European plants. This takes place as the auto industry faces the potential for longer-term disruption in metals and chips supplies due to significant Russia and Ukraine exposure.
- Russia is the world’s biggest exporter of palladium (40%) and second-biggest exporter of platinum, both of which are used in the construction of autocatalytic converters for vehicles.4
- Ukraine is a key supplier of wiring harnesses that are needed to organise a car’s wiring and connect its various components.
- Difficulties in receiving wiring harnesses from Ukraine has forced both German-based Volkswagen (VW) and BMW to idle certain plants in Germany while acknowledging that other plants will begin to slowdown as well.
- Ukraine produces 70% of the world’s neon gas—most of which is used to produce semiconductors and automotive chips. This exposes automakers and electric vehicle (EV) producers to greater challenges with replenishing already-depleted chip inventories should the war in Ukraine effect neon gas production and transportation.5
Semiconductors: Neon gas—one of the key materials needed for semiconductor production—predominantly comes from Ukraine. While the longer-term concerns center around Ukraine’s neon gas production, the current issues revolve around the closure of the Black Sea ports that transport the existing stock of neon gas to the rest of the world.
- Russia and Ukraine produce 40%-50% of semiconductor-grade neon. Largely derived from Russian steel manufacturing, neon gas is purified in Ukraine so it can be used in lasers that help in the design of semiconductors. 6
- Up to 75% of the world’s neon supply is used to make semiconductors.7
- Semiconductor production could also be impacted longer term given the high exposure to Russia’s production of palladium, a metal that is used in sensor chips and certain types of computing memory.
- Large chip companies such as Intel have said they expected limited supply chain disruption for now from the Russia-Ukraine war, thanks to raw material stockpiling and diversified procurement. This is a positive acknowledgement given the White House warned the semiconductor companies to diversify their supply if Russia retaliates against current sanctions by blocking access to key materials such as neon gas.
Food: Ukraine’s predominant trade partners for food are the Middle East and North Africa; these regions will be impacted the most from any war-related food disruptions. Ukraine and Russia combined account for 29% of global wheat exports, with the Black Sea region effectively regarded as the “breadbasket of the world”.8 However, this will now strictly be the breadbasket of Ukraine since the Ukrainian government has banned exports of wheat and other food staples to prevent a humanitarian crisis in the region.
- Ukraine supplies about 15% of the global corn supply.9 Major customers include China and the EU.
- Russia and Ukraine together represent almost 30% of the world’s barley supply.10
- In addition, Ukraine is the global leader in sunflower oil and together with Russia accounts for 75% of global sunflower oil exports, which represent about 10% of all cooking oil.11
- Planting for corn, barley and sunflower seeds will start in April and occur directly in areas where the Russian military is currently bearing down. Ukraine’s next wheat harvest is also set to begin during the upcoming summer.
Fertilisers: Russia is a major producer of potash, phosphate and nitrogen-containing fertilisers which represent roughly 13% of global fertiliser exports.12 Following a Russian ban on ammonium nitrate fertiliser, the Russian Ministry of Industry and Trade has now called for a broad suspension of fertiliser exports. The potential for a persistent fertiliser shortage could increase farming costs and lower crop yields, producing global food shortages and inflation.
- A significant development comes from Russia banning the export of ammonium nitrate, a key fertiliser for which Russia accounts for two-thirds of the global market.13
- This ban comes at a crucial time, as the world has already faced fertiliser disruptions leading up to the war in Ukraine.
- Brazil is the most affected country given its status as the largest producer of coffee, soybeans, and sugar. It is enormously dependent on fertiliser imports: 85% of its fertilisers are imported annually, with 20% coming from Russia which will be impacted by the ban.14
- Inventory levels suggest that Brazil’s local fertiliser stocks will only last for the next three months as Julia Meehan, head of fertilisers for the commodity price agency ICIS, highlights that “All everybody is talking about is availability. There are huge concerns”.15
Global Macro Implications and Multi-Asset Considerations
Inflation was high as we headed into 2022. There were some promising signs of supply chain woes starting to ease—supplier delivery times were starting to improve, prices paid by businesses were starting to fall, and the slow fading of durable goods demand were all giving signs that inflation may ease in the new year. As the Russia-Ukraine war has escalated, the rise in energy prices has derailed much of the optimism we had entering 2022.
The current macro outlook has darkened. Our inflation expectations have risen dramatically. Importantly, we view the current rise in inflation as being supply-driven, and consequently expect the rise in prices to negatively affect household and business demand. We were already seeing the negative impacts of high inflation on consumer confidence, and now expect additional headwinds to real consumer spending, even as most private sector balance sheets remain healthy. Lastly, the mixture of higher inflation and lower demand adds to an already precarious policy environment. Central banks in most major regions are expected to hike this year, in some cases significantly. It will be difficult for policymakers to engineer a soft landing in this volatile macro environment; the risk of a policy error has risen.
In multi-asset portfolios, we are less bullish on equities as our expectation of inflation has risen against weaker demand. We do not expect policymakers to come to the rescue if risky assets stumble from here, particularly as inflation remains well above most central bank targets. We have also turned bearish on Eurozone equities, where supply-chain effects are greatest. We continue to favour inflation-linked bonds over nominal bonds and remain underweight duration.
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1. Source: Bloomberg. As of 2020.
2. Source: M. Thompson. “Europe plans to slash Russian gas imports by 66% this year,” CNN Business, 8 March 2022.
3. Source: ICE UK Natural Gas Futures.
4. Source: HSBC Global Research, Russia-Ukraine escalation, February 2022.
5. Source, P. Wadhwa. “Russia – Ukraine war: Brace for chip shortage, warns Moody’s Analytics”, Business Standard, 5 March 2022.
6. Source: S. Bhattacharyya. “Russian Attack on Ukraine Could Dent Chip-Maker Supply Lines”, The Wall Street Journal, 25 February 2022.
9. Source: N. Aizenman. “Russia’s war on Ukraine is dire for world hunger. But there are solutions”, NPR, 6 March 2022.
11. Source: J. Wilson. “Russian war in world’s “breadbasket” threatens food supply”, AP News, 6 March 2022.
12. Source: HSBC Global Research, Russia-Ukraine escalation, February 2022.
13. Source: L. Magalhaes, S. Pearson. “Ukraine War Hits Farmers as Russia Cuts Fertilizer Supplies, Hurting Brazil”, The Wall Street Journal, 5 March 2022.
15. Source: S. Butler. “Surge in fertiliser prices from Russia-Ukraine war adds to pressure on UK farmers,” The Guardian, 8 March 2022.