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Escalating tensions in the Middle East have begun to exert a notable influence on global trade, with Yemeni Houthi targeting commercial vessels leading to disruptions in maritime traffic. This development has resulted in a substantial surge in freight charges, as shipping companies opt for longer routes to avoid the Red Sea, consequently impacting various sectors. Additionally, the heightened tensions in the region have the potential to trigger a commodity super-cycle, driven by rising oil prices, contributing to increased inflationary pressures.

According to the Topline Securities, the top most commodities that are shipped each year via Red Sea and Suez Canal include Crude, LNG, Chemicals, and Coal etc. Each year, approximately 21,000 vessels carrying cargo pass through Red Sea and Suez Canal route. But with recent attacks on vessels, it is estimated that approximately 40-50% of the ships have diverted away from this route amidst rising security concerns. If this issue persists, then this may spur another commodity super cycle on the back of rising freight charges due to re-routing via Africa and possible shortage of commodities amid longer lead time increasing their global prices.

In case of Pakistan the ongoing disruptions could impact E&P sector positively and negatively impact sectors on account of supply chain disruptions could include Fertilisers, Textiles, Chemicals, Steel and Cement.

E&P Sector

The Pakistani oil and gas sector stands out as a potential beneficiary in the face of increasing international oil prices. The revenue of E&P companies in this sector is directly tied to the international basket of oil prices, and any upswing in these prices is poised to have a positive impact on their financial performance. POL and OGDC are expected to be major beneficiaries given their higher share of oil production on which the entire amount of oil price is passed on enhancing the bottom-line unlike gas pricing, where a sliding scale method imposes caps on gas prices.

Fertiliser Sector

The Red Sea serves as a crucial artery for diverse chemical shipments, and a significant portion entails fertilizers. Among these, urea, DAP, NPK, and phosphoric acid hold prominent positions. Although Pakistan is a large producer of Urea, there may be negatives for imported Fertilisers such as in case of DAP. Notably, FFBL’s reliance on Moroccan phosphoric acid via the Red Sea route introduces a potential vulnerability to supply chain disruptions. Conversely, FFC and EFERT actively engage in imported DAP trading within the local market. It is important to note that higher lead times could trigger international DAP price hikes, potentially escalating domestic DAP prices as well.

Chemical Sector

Within Chemicals, some of the key commodities traded include Ethylene, Propylene and Polymers. If the crisis persists, prices of key chemical commodities that are derivatives of Crude Oil should increase, thereby negatively affecting primary margins of various commodities. Potential disruption of supply of Ethylene to European region may spark higher Ethylene Prices, reducing primary margins on the back of subdued global demand. This can negatively impact EPCL & LOTCHEM with further contraction in primary margins. Although supply should remain steady as both the companies import feedstock from Middle East, higher freight charges and increasing feedstock prices may dent gross margins.

Textile Sector

The textile sector faces a strong risk of potential delay in timely fulfillment of orders amidst higher lead times, and higher freight charges. This is a negative for textile companies since they would have to increase their short-term borrowings to maintain higher level of inventory, and to timely ship each of their orders towards USA and Europe. This can potentially be negative for ILP, NML and GATM who have a strong client portfolio based in Europe and USA. As a result, the lead time for delivering export orders may increase due to longer lead time and this should lead to higher distribution costs amid higher freight charges.

Cement Sector

Suspended operations in Red Sea poses challenges for the viability of cement exports and may result in increased cost of imported coal. The extended travel time of 9 days for DGKC exports to North America makes it difficult for the company to continue exporting to that region. Moreover, risk of higher imported coal could have adverse effects on South-based players like LUCK, DGKC, and ACPL, which rely more on imported coal.

Steel Sector

Potential delays in scrap imports are anticipated due to the Red Sea route closure, possibly resulting in an upswing in steel scrap prices. Extended lead times in scrap importation could contribute to higher inventory levels, consequently raising the working capital needs for steel companies. This, in turn, may prompt these companies to resort to increased short-term borrowings, especially amidst prevailing elevated interest rates.