The influence of climatic phenomena on commodity markets
Climatic phenomena directly impact the agricultural and energy commodity markets. We explain how this happens and how it relates to risk management.
Weather phenomena have significant impacts on commodity markets. These happen mainly because they influence both supply and demand. The consequences? Variations in the prices of these products, in the agricultural and energy sectors alike.
In China, for example, the worst rains in 140 years were recorded in August of 2023, caused by Typhoon Doksuri. The hurricane season on the Gulf of Mexico coast, the arrival of El Niño, and the monsoons in India are also situations that affect the entire planet.
In this article, you’ll come to understand more about how weather events are related to the commodity chain, and the critical role of risk management.
Which climatic phenomena affect commodity markets?
Climate phenomena are intensifications or alterations of atmospheric patterns and can be natural or resulting from human interference. They play a crucial role in shaping both the regional and global climate, and the repercussions are felt by the environment and society.
Here, we’ll look at six such phenomena that arise due to climate change. The changes they cause can impact the productivity of agricultural and energy markets, modifying supply and demand. The result? Greater market volatility. Events that directly impact supply by restricting its volume can lead to price increases. While they are not always detrimental to production, these phenomena can expand supply and lead to price declines. Therefore, it becomes essential to understand both their causes and potential effects, and to utilize appropriate risk management mechanisms.
Floods form when an area experiences a rapid and significant accumulation of water. In general, they’re caused by excessive rainfall. Rivers often overflow, in turn causing floods and substantial damage to infrastructure.
Droughts are prolonged periods of the absence of rain, when there are insufficient water levels to meet the needs of plants, animals, and humans. Droughts vary in intensity, duration, and magnitude, affecting both rural and urban areas.
Hurricanes are weather storms with extremely strong winds, heavy rainfall, and low atmospheric pressure. They form near the equator due to warming ocean temperatures.
- El Niño
El Niño is characterized by the warming of the Pacific Ocean’s surface in equatorial regions. Usually, it forms in the second half of the year.
During the period of this phenomenon’s activity, the ocean waters are at least 0.5°C above their average temperature for a prolonged time, which varies from six months to two years. In Brazil, El Niño causes an increased risk of drought in the country’s North and Northeast regions, and large volumes of rain in the South.
- La Niña
La Niña occurs when the surface waters in the central and eastern parts of the equatorial Pacific cool down. It triggers changes in tropical atmospheric circulation, altering temperature and rainfall regimes in diverse locations around the globe.
During this phenomenon’s period of activity, the waters are at least 0.5°C below the average temperature for a prolonged period. In Brazil, La Niña is responsible for heavy rains in the North and Northeast, together with droughts in the South.
Monsoons are climatic variations that have their most visible effects in the southern and southeastern parts of Asia. They’re formed by the variation in the direction of winds according to the seasons, which causes heavy rains in the summer along with severe droughts in the winter in countries such as India, Pakistan, and Bangladesh.
Do you want to know how these phenomena are associated with commodity markets? Read on!
What are the effects of these phenomena on agricultural markets?
For you to better understand how the phenomena are related to agricultural commodity markets, we’d like to share two current examples with you:
In China, the continuous rains caused by Typhoon Doksuri affected 258,000 hectares of sown area in the country’s largest grain-producing province, Heilongjiang. Floodwaters badly affected farms and towns in the country’s northeast. The storm was so severe that it severely thinned out rice-growing areas in Lianhua Village in Wuchang.
Analysts say with more rain forecast, as yet another typhoon approaches in China, there are threats of increased pressure on global food inflation. The forecast is that the heavy rains in China’s principal grain-producing region will raise world rice prices.
This year in July, Indian farmers delayed grain planting due to erratic monsoon rains. The country’s production is viewed with great attention by the market, as planting delays are usually accompanied by a significant reduction in productivity.
Related to this, El Niño can reduce rainfall during the maturation period of plants. This event causes changes in atmospheric patterns, leading to a weakening of monsoon circulation (they tend to be weaker and less predictable).
As a result, India’s sugar cane growers are concerned about the possibility of drought during the crucial crop growth period. In this scenario, there may be less sugar production in the next season, reducing exports from the world’s second-largest sugar producer.
Could the energy market also be affected by climatic phenomena?
Absolutely! For that, we just need to remember what Hurricane Ida was like. It hit the southern coast of the U.S. in 2021 and proved to be the sixth costliest of all time. Its effects on the energy market were significant:
- There was a 95% cut in oil production on the Gulf of Mexico coast.
- The energy supply was hit hard, with the forced closure of most offshore wells in the region.
- Nearly half of motor fuel production was stopped, considerably increasing fuel values.
- More than 1.3 million homes and businesses in Louisiana and Mississippi lost their power.
The U.S. hurricane season is currently underway. This is yet another major event that brings all attention to commodity markets, in view of the risks of disruption to energy supply chains.
Managing Risk: Understand its role in this specific scenario
Risk management doesn’t prevent weather risks, but it is a vital tool to protect against the price volatility frequently caused by these phenomena.
Due to this, producers and other agents in the global commodity chain can resort to special instruments such as the use of derivatives. hEDGEpoint combines market intelligence with hedging products to help businesses find protection from price volatility in these markets.
Talk to a hEDGEpoint professional today to find out more!
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