Meet the lit­tle girl spread­ing fear in com­mod­ity mar­kets

Af­ter a dis­rup­tive hur­ri­cane sea­son, traders are on their guard for La Niña, writes Anna Isaac

The Sunday Telegraph - Money & Business - - Business -

Most peo­ple don’t fear lit­tle girls, but me­te­o­rol­o­gists know bet­ter when it comes to this one, and so do econ­o­mists. In Septem­ber, the risk of La Niña, (Span­ish for “lit­tle girl”), a weather pat­tern that in its strong­est man­i­fes­ta­tion has been blamed for flooded mines in Aus­tralia and failed crops in Brazil, was tripled to 60pc by the US Cli­mate Pre­dic­tion Cen­tre.

La Niña is part of what is known as the El Niño-south­ern Os­cil­la­tion cy­cle. While El Niño warms wa­ters in the cen­tral Pa­cific Ocean, La Niña has an op­po­site ef­fect. And the changes in sea tem­per­a­ture caused by these weather events can trig­ger large shifts in weather pat­terns. When a strong La Niña hits, as seen in 2010-11, it can cause drought, flood­ing and, at its most bizarre, bumper catches off the coast of Peru as fluc­tu­a­tions in wa­ter tem­per­a­tures change the feed­ing grounds of fish.

Even just a hint of its ar­rival can raise coal prices, as mar­kets re­mem­ber when the strong La Niña of 2010-11 flooded coal pro­duc­tion ar­eas such as Queens­land in Aus­tralia.

Pro­fes­sor Adam Scaife, head of long-range pre­dic­tion at the UK Me­te­o­ro­log­i­cal Of­fice, says that while the risk of a La Niña as ex­treme as that seen six years ago is low, it’s im­por­tant to con­sider the ram­i­fi­ca­tions even a rel­a­tively weak event can have for next year’s hur­ri­cane sea­son. “There are a cou­ple of things that can take the wind out of a hur­ri­cane: one is land­fall, which de­nies the storm ac­cess to the warm ocean sur­face and in­creases sur­face fric­tion,” Scaife ex­plains.

The other, he notes, is when winds run counter to one an­other near the ocean sur­face and then at al­ti­tude. This dif­fer­ence is known as a shear. “If that dif­fer­ence is strong enough it can shear out and kill a grow­ing storm. As La Niña weak­ens the wind shear in the At­lantic, it tends to be as­so­ci­ated with an ac­tive hur­ri­cane sea­son,” he says.

The in­creased risk of this weather event comes hot on the heels of a dev­as­tat­ing hur­ri­cane sea­son. Ac­cuweather has es­ti­mated that hur­ri­canes Har­vey and Irma might cost a com­bined $290bn (£222bn), nearly dou­ble that of the sea­son that pro­duced Hur­ri­cane Ka­t­rina.

Har­vey, which killed more than 80 peo­ple and caused ma­jor flood­ing in Texas this Septem­ber, is a use­ful ex­am­ple of just how dis­tort­ing ex­treme weather can be to the ex­trac­tion, and pro­duc­tion of, com­modi­ties like oil.

“When a dis­rup­tion like that hap­pens it re­ally shines a light on how com­plex the process [is] of get­ting oil to the point where it is diesel or petrol at a ser­vice sta­tion,” says Cal­lum Macpher­son, head of In­vestec’s com­modi­ties team.

The point with Har­vey, which traders, busi­nesses and con­sumers alike ought to con­sider, he notes, is that not only did the re­sul­tant flood­ing cur­tail oil ex­trac­tion in the US, it also dis­rupted the refin­ing in­dus­try: “In the US, road trans­port tends to be dom­i­nated bwy petrol cars. So when they shut down, the price of petrol in the US went crazy.” Un­able to re­fine oil, con­sumers and com­pa­nies had to rely on in­ven­to­ries of petrol.

“That tends to push up the price of things that come out of re­finer­ies,” adds Macpher­son. In­creased pres­sure on this point of the sup­ply chain means there’s min­i­mal ca­pac­ity left for un­re­fined oil, so fresh from ex­trac­tion, Aus­tralian mines were flooded by the 2010-11 La Niña weather event, and com­modi­ties mar­kets are al­ready brac­ing for an­other one

Changes in re­gional spot fuel prices af­ter hur­ri­cane land­fall

it is placed into stores, and its value drops. There’s a knock-on ef­fect be­yond too. “It rip­pled around the world. Be­cause US con­sump­tion is quite petrol-fo­cused, it tends to pro­duce an ex­cess [of ] what are called mid­dle dis­til­lates such as jet fuel and diesel, and these are shipped over to Europe,” ex­plains Macpher­son.

It’s a highly ef­fec­tive trade in byprod­ucts from one mar­ket for use in an­other. How­ever, when Har­vey hit, and re­finer­ies in the US shut down, this flow of dis­til­lates stopped. The con­se­quence was a steep rise in jet fuel and diesel prices in Europe. Re­fin­ers on the con­ti­nent at­tempted to fill the gap and, while this off­set the price rises to some ex­tent, it also in­creased de­mand for lo­cal Brent crude oil. “The con­se­quence of the hur­ri­cane is that it caused sig­nif­i­cant changes in the price of dif­fer­ent oil-based prod­ucts rel­a­tive to one an­other. Re­fined prod­ucts in­creased in price rel­a­tive to crude oil, and the price of crude oil – in this case Brent – rose rel­a­tive to that ex­tracted in the US,” says Macpher­son.

When try­ing to as­sess the likely im­pact on com­modi­ties of weather events, it is cru­cial to think be­yond the im­me­di­ate im­pact on crop yield and dam­age to phys­i­cal in­fra­struc­ture. Work­ing back­wards from con­sumer de­mand may prove a more ef­fec­tive way to gauge the mar­ket im­pact of events such as La Niña.

War­ren Pat­ter­son, com­mod­ity strate­gist at ING, thinks early signs of La Niña are al­ready man­i­fest­ing them­selves: “We’ve al­ready seen drier weather in Brazil, which is usu­ally the case for La Niña, from now un­til the end of the year. There is the po­ten­tial that this could have lower soy­bean yields, and to a lesser ex­tent corn.” But while it could pull down pro­duc­tion lev­els in Brazil, it may be good for the har­vest of Aus­tralian sugar cane, and stim­u­late a fur­ther re­bound in South African crops, as wet­ter weather hits.

Sugar cane is a ma­jor crop for sev­eral south­ern African na­tions. And this bumper har­vest could come ex­actly as UK farm­ers push ahead with in­creased pro­duc­tion in sugar beet fol­low­ing the lift­ing of EU pro­duc­tion and ex­port caps on sugar. La Niña might spell bad news for sugar prices, even as it sup­ports the price that soy­beans can com­mand.

So while cool­ing wa­ters in the Pa­cific might seem an ab­stract or re­mote con­cern, ob­servers in the com­modi­ties mar­kets will be pay­ing close at­ten­tion. As should UK sugar beet farm­ers.

Take note: this lit­tle girl has clout.

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