Increased interest in hedging geopolitical instability has led a distinct group of investors back into commodity markets in droves, according to a June panel discussion at FIA’s International Derivatives Expo in London.
Michael Haigh, the global head of commodities research at Société Générale, works with institutional investors worldwide. On a recent visit to Scandinavia, a region known for prioritising environmental, social and governance concerns, he noticed a significant shift in interest related to commodity markets.
“The way it was explained to me,” he said, “is that they've missed out on the ability to hedge portfolios effectively using commodities and, of course, the diversification benefits.”
“Before Russia invaded Ukraine, the majority of my meetings about commodities had to do with the green transition and material availability and how that will pan out over the years as the world moves away from hydrocarbons to alternative forms, which are very metal-intensive. Those conversations aren't as prevalent when you have geopolitical tension,” he said.
“There's sort of an attitude of, ‘we've gone too far on excluding commodities in our portfolios from an ESG perspective,’ but underpinning all of this is this force of the green transition that is going to reshape commodities over the next decade and beyond. This is still a conversation. I think it's incredibly important,” Haigh added.
Metals
For end users in the industrial metals sector, the energy transition and material transparency remain in focus.
Robin Martin, head of market development at the London Metal Exchange, noted LME continues to track metrics related to carbon footprint and water usage.
“When it comes to sustainability and ESG considerations around our core metals, we don't think that's going away as a theme. Downstream users – consumers of metal – increasingly want to know where the metal is coming from and under what conditions it has been produced.”
As a result, Martin said LME created a program, LME Passport, which has grown into an industry data repository where most of the metal brands traded in the LME ecosystem voluntarily disclose ESG credentials. Hundreds of users log into the platform to understand the carbon footprint, the water consumption and any impact on indigenous rights by the metal they consume.
Martin also suggested the LME system could lead to placing a premium on certain metals, depending on their provenance.
Inflation surprises
Haigh also addressed the interaction of commodities and inflation.
“Commodities are the best hedge against inflation surprises,” he said. “[Even] if you go back in periods of time where inflation happened that had nothing to do with commodities, commodities still win out in terms of the hedge, because it becomes a self-fulfilling prophecy in terms of people wanting to use them for that.”
“From an investment standpoint, macro hedge funds, asset managers, pension funds and so on adding commodities in their portfolio [have realised] the diversification benefits. They still are worried about inflation. They still recognise that commodities are probably the best solution to that,” he added.
Market structure
From February 2022, when Russia invaded Ukraine, to present day, all traders have faced increased volatility and uncertainty. Adding to the mix, US trade and economic policy – tariffs in particular – also has whipsawed markets.
This uncertainty has led to price volatility, making the risk management features of futures markets ever more attractive.
While it remains unclear if current volatility levels will remain, Derek Sammann, senior managing director and global head of commodities markets at CME Group, cautioned against current-year tunnel vision.
“We're going to miss a lot if we just think the events of the last week or the last quarter are driving volatility. There have been structural shifts across global commodities markets going back three, four, five years. And I think what we're seeing is a market that has adapted to broadening the tools and the resources available to them to manage through certain uncertainty,” Sammann said.
“What we've seen over the last couple of years is a market that has been able to see, assess, understand and adapt to a rapidly changing market with far more structural changes than cyclical changes or short-term change.”
Global macro hedge funds increasingly hiring commercial customer traders for long-term portfolios of commodities risk management underscores Sammann’s view. “That tells me this is not a cyclical shift. This isn't a response to Ukraine two and a half years ago. This is not a response to Middle East tensions from Friday afternoon. This is a structural shift that is repositioning them in global commodities portfolios. That is a win for end user customers.”
