How long will geopolitics upend commodity markets

Given today’s unique conditions, the GIC has further enhanced its asset allocation with the addition of tactical exposures to natural resources, oil services firms and gold that aims to add diversification and serve as a possible hedge against tail risks.

Commodities continue to outperform other US$-denominated asset markets with 25% YTD returns versus -7% for US equities, and -8% for US credit. The outperformance is led by the petroleum complex with 48% returns followed by industrial metals and grains, both of which are posting YTD returns of ~30%. As an increasingly hawkish Fed kicked off its tightening cycle the 2y10y UST curve flattened further as growth concerns linger for the medium-term. Over the last three decades, such curve flattening periods have usually led to the outperformance of precious metals and underperformance of the petroleum complex.

• Oil: Oil prices are back on the upswing as the Russia-Ukraine conflict continues. Chief to the NATO strategy is a greater focus on weaning off dependence on Russian energy. This will likely mean additional investment in traditional energy, such as gas pipelines and production, which would be supportive of our overweight position in global natural resources and oilfield services in the short to medium term.
• Gold: The precious metals sector tends to outperform other commodity sectors during significant curve flattening episodes, based on rolling 6M annualized returns. Citi analysts believe there is a bit better than 50/50-probability that prices could post fresh nominal records in 2Q/3Q 2022 north of $2,100/t. Elevated geopolitical risks, COVID-19 concerns in China, and robust inflation data should all continue to tilt the macro backdrop to one that favors investor inflows for gold, at least in the short-term. 
• Bulks and metals: Average staple crop prices are set to be higher and more volatile in 2022 versus 2021. The Russia-Ukraine military conflict has resulted in tighter wheat and corn export markets with soybeans also dragged higher as a knock-on impact, putting upward pressure on food inflation globally. This is a key risk for importing EM consumers in North Africa and the Middle East, which are the economies most sensitive to shut-in Black Sea agriculture trade. Yet other net exporters of staple cereals may benefit from higher volumes including India, Australia, Brazil, Western EU, and possibly the US.