Bulk, energy-intensive commodities supply at risk in event of sanctions on Russia: Wood Mackenzie

The supply of bulk commodities, primarily coal, iron ore pellets and semi-finished steel, as well as metals sensitive to energy prices, would be most at risk should the US and EU adopt blanket sanctions against Russia over the latter's conflict with Ukraine, Wood Mackenzie said in a statement Feb. 15.

Russian trade has typically stood up well during past sanctions but those were very targeted, often focused on individuals and specific companies. This time, Europe-wide or UN-led global measures -- under consideration -- would present a new challenge, according to Wood Mackenzie vice president Robin Griffin.

Russia supplies multiple commodity markets, but typically accounts for 5% or less of base metals and rare earths production, or trade. This share compares with more than 15% of the seaborne metallurgical and thermal coal trades. Importantly, Russia supplies Europe with almost all of its low-sulfur content PCI (Pulverized Coal Injection), and 60% of its high-energy thermal coal.

Given Russia's shares of global metals and mining markets, bulk commodities would be most at risk.

Wood Mackenzie sees a blanket EU ban on Russian coal imports as unlikely, but if implemented, it would lead to a large hole in EU coal supply as US and Colombian thermal coal exports are insufficient to fill the gap, while replacement for low-sulfur PCI would be near impossible in the short term. Australia — the only other major PCI supplier — has seen spot PCI volumes dry up almost completely since mid 2021, said Mackenzie.

Fears over gas supply

Another major risk of conflict is the potential for higher power and energy prices as all industrial activity in Europe would feel the effect of higher power prices.

For metals and mined commodities markets, energy-intensive smelting is most vulnerable to this, particularly aluminum and zinc. For instance, power constitutes nearly 35% of the cost of making aluminum on average, and higher in some European smelters.

The relationship between gas and power prices is already playing out in EU markets: an escalation in power prices across Europe has already led to significant aluminum production cuts. Any further gas price rises would push electricity prices higher as well, according to the analyst firm, which estimates that an additional 400,000 mt/year capacity is at risk of shutting down if energy prices escalate further.

Europe accounted for 15% of ex-China aluminum supply in 2021 and supply cuts could have a material effect on prices for refined metal, said Mackenzie.

Zinc smelting is also very sensitive to energy price rises, especially given a significant European share of the market at 2.2 million mt/year. Europe accounts for 16% of global refined zinc output.

Risks to Ukraine's production

There are also direct risks to production facilities inside the potential conflict zone in Ukraine, especially in the border regions, although outside of the bulks sector, most production lies some distance from the border, according to Mackenzie.

Although Ukraine's steel production represents a tiny proportion of global supply, which makes a prolonged impact on global steel prices unlikely, its exports of steel semis do register on a global scale, said Mackenzie. It added that if Ukraine's 4 million mt/year of exports to Europe are affected, then some upward pressure on steel prices is inevitable.

Exports of Ukrainian coal have now all but disappeared, but the country imports between 10 million and 13 million mt of metallurgical coal each year, of which Russia and the US typically make up 65% and 25%, respectively. Thermal coal imports stand at 3 million-4 million mt/year.

"Deliveries into Black Sea ports are already being disrupted and there's no guarantee that imported coal could make its way further inland into eastern Ukraine," said Griffin.

For other base metals and mined commodities, production in Ukraine is typically small, he added.

The ultimate impact on markets will depend upon the geographic spread of the conflict, and the breadth of retaliatory sanctions and their exact nature, summarized Mackenzie.

"There is little doubt that any conflict would add to the growing inefficiency of commodity supply that has been a feature of markets over recent years," said Griffin.

"As we have seen during other market interventions, the rebalancing can be messy with more constraints than expected due to quality differences and typically comes with a price impact that goes beyond the additional costs of obtaining alternative supply," he said.