Perch’s Perspective: 24 April 2020 Week in Review

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Perch’s Perspective: 24 April 2020 Week in Review

Super contango. If there has been a crazier week in oil futures markets, we cannot remember it. On Monday, West Texas Intermediate (WTI) oil futures closed at -$37.63 a barrel, equivalent to a single-day drop of 306 percent. Prices recovered to $16.67 a barrel by Thursday, but even for experienced oil traders, the nosedive into negative pricing, however brief, was shocking and unsettling. Remarkably, until earlier this month, the CME Group’s computer systems were actually unable to handle negative pricing in WTI and were updated a few weeks ago just in case of such an eventuality. The Texas Railroad Commission, which regulates the oil and gas industry in Texas (and by extension 41 percent of total U.S. oil production) postponed a vote on whether to mandate production cuts until at least May 5th.

What it means: Negative pricing for a flagship global oil futures contract like WTI was theoretical Monday — but “contango” has been a reality for commodities futures for centuries. Contango simply describes a phenomenon when the current price of a commodity is lower than the price would be for delivery in the future. Super contango is when the spot price is “super” below the futures price (and oddly enough the “super” descriptor is subjective, not objective). Monday’s nosedive into super negative contango was a result of two factors: oversupply in the market and lack of capacity for storage. Even though WTI prices have recovered, there are credible scenarios for the lack of storage problem to worsen — considerably. Those with crude oil storage to spare have never enjoyed such success. 

U.S. pork production is under significant strain. A week after Smithfield shut down a major pork processing facility in South Dakota, Tyson Foods announced it was shutting down its largest plant in Iowa and JBS closed its largest plant in Minnesota. According to a USA TODAY study, COVID-19 infection rates in counties with meatpacking plants are 75 percent higher than other U.S. counties.

What it means: According to our research, 16 percent of daily U.S. pork production capacity is currently offline. Far more concerning however is that there are confirmed COVID-19 cases at plants representing 60 percent of daily pork production capacity in the United States. The bottlenecks are happening in the processing and packaging part of the supply chain. The problem though is that despite ample supply, the bottlenecks and the uncertainty are placing strain on U.S. farmers, who still have to pay to feed pigs (or slaughter them) that were supposed to already have been sold. If U.S. meat processing facilities cannot implement safety controls that prevent COVID-19 spread, the situation could worsen considerably. We will be keeping a close eye on this, as well as on beef and poultry production, going forward.

Locusts in East Africa are spreading. According to the UN’s Food and Agriculture Organization (FAO), late-March rains in East Africa are setting the stage for new and intense locusts swarms in Kenya, southern Ethiopia, and Somalia. Uganda and South Sudan are also facing potential risks, and spread is confirmed throughout the Arabian Peninsula and is particularly bad in southern Iran. The FAO expects that eggs being laid in early April will begin to hatch in May and develop into swarms in late June and July, which is when the harvest season begins. Even more distressing is that the FAO is observing locusts spreading into Iran and Pakistan, while noting “limiting breeding near the Indian border.”

What it means: Just the situation in East Africa has the potential to become one of the most serious food crises in decades. To add insult to injury, COVID-19 is disrupting supply chains for much-needed pesticides and is also hampering overall prevention measures and even preventing surveillance equipment from South Africa and other nearby countries from traversing national borders. India demonstrated earlier this year that it is capable of managing a locust problem with drones and advanced technologies, but its capabilities are about to be severely tested if reports that this second-wave of locusts swarms is 20 times bigger than the first break-out observed earlier this year. Iran’s potential situation is also very serious and bears close watching going forward — it is a cruel irony that one of the most water-stressed countries in the world is facing a potential locust plague because of greater-than-average rainfall.

Remittances are declining. According to the World Bank, global remittances for low and middle-income countries will fall by 20 percent in 2020. Foreign direct investment is also expected to drop by 35 percent. The World Bank projects a 6 percent rebound in 2021 but admits that the outlook remains “uncertain.” The regions facing the biggest declines are Europe/Central Asia (28 percent), Sub-Saharan Africa (23 percent) and South Asia (22 percent). 

What it means: The countries most dependent on remittances as a percentage of GDP are Tonga, Kyrgyzstan, Haiti, Tajikistan and Nepal. The top five remittances recipients in absolute terms are India, China, Mexico, the Philippines, and Egypt. If you are looking for a leading indicator of serious social, political, or economic unrest in the coming months, here are some likely candidates. There is no easy way for countries to replicate these missing flows. It is also a concrete example of how globalized the world is — and how COVID-19 is accelerating decoupling. Decoupling after all is not always about dramatic trade war drama between countries like the US and China. It is also about subtler shifts beneath the surface affecting the most vulnerable populations. 

The EU drags its feet…but signs of life out of Germany. EU leaders met virtually on Thursday to officially endorse a 540 billion euro rescue package and to discuss additional measures necessary to manage the economic fall-out of COVID-19 in the bloc. While there was an agreement to renegotiate the next seven-year EU budget due to enter into force Jan. 1 and to devise an additional recovery plan, the details remain to be worked out. Spain, Italy, and France support a 1.5 trillion euro recovery plan that would include grants for hardest-hit countries financed by “perpetual” EU loans. Germany, the Netherlands, and Austria are opposed to the plan, though Germany has indicated it is willing to contribute more money to the budget because, in Chancellor Angela Merkel’s words, “Germany can only do well in the long run if Europe is also doing well.”

What it means: If this feels like déjà vu, it is because the EU continues to have the same conversation over and over again. EU leaders declare that there has been progress and that they “are all in this together,” only to fall short of actually taking decisive action to support harder-hit EU member-states. French President Emmanuel Macron said yesterday for instance that “disagreements on the mechanism” would not stop the EU from “real economy budgetary transfers” — which is more fantaisie than reality. At least one EU official said before yesterday’s meeting that the EU might not come to agreement until the summer on recovery talks. Merkel provided a glimmer of hope, however, when she said earlier this week that she could “imagine such instruments further down the line.”

Honorable Mention

The U.S. Federal Communications Commission officially adopted new rules opening up the 6 GHz band for unlicensed WiFi use; unlicensed devices will reportedly share this spectrum “with incumbent licensed services under rules crafted to protect” them.

The United States is offering Greenland a $12.1 million aid package, focusing mainly on the energy, education and tourism sectors, because it is worried about Russian and Chinese ambitions in the Arctic.

China plans to buy 10 million tonnes of soybeans, 20 million tonnes of corn, and a number of other American agricultural exports to boost its state reserves.

Iran’s Islamic Revolutionary Guard Corps announced that it had launched its first satellite into space; the announcement came on the same day U.S. President Donald Trump threatened to “shoot down” Iranian gunboats reportedly harassing U.S. military vessels in the Persian gulf.

North Korean “supreme representative of all the Korean people” Kim Jong Un hasn’t been seen in public lately and rumors suggest he might have had heart surgery, South Korea reports however that there is no evidence to support rumors of the Dear Leader’s poor health.

China is reportedly cracking down on Chinese gamers, blocking some from playing popular games like “Animal Crossing” and subjecting gamers to additional surveillance and restrictions on games involving zombies, plagues, and organizing unions.

It’s never a bad time for insights from Charles Darwin.