Industry Insiders: When weather becomes an investment risk

Key Points

El Niño is strengthening. The US National Oceanic and Atmospheric Administration (NOAA) now puts the probability of a very strong event this autumn and winter at greater than 90% and assigns a 75% chance that the October to December period alone will exceed the strength of every El Niño on record back to 1950[1]. For investors, event strength is only the starting point. The investment question is where physical disruption becomes financially material, as it travels through food, power, trade and public finances into asset prices.

"Very strong” does not mean every country will experience a severe shock. The economic and financial impact will depend on where and when weather anomalies emerge and on the ability of individual economies to absorb them. As a result, broadly similar climate exposure can produce very different market outcomes. El Niño should therefore not be viewed as a blanket bearish signal, but as a source of greater differentiation across sovereign markets.

Exposure is not the same as vulnerability. And vulnerability is not necessarily the same as mispricing.

FOLLOW THE TRANSMISSION, NOT JUST THE WEATHER

Our multiyear research collaboration with Johns Hopkins University examines how physical climate signals can translate into the macroeconomic variables that matter to sovereign investors.

The initial research covers 12 emerging-market sovereigns. It estimates historical El Niño–Southern Oscillation (ENSO)-related patterns in temperature and precipitation by country, subregion and season alongside soil moisture, runoff, streamflow and crop-weighted exposure. The research then seeks to map these physical signals into potential macroeconomic and market transmission channels, including growth, inflation, trade, fiscal and external accounts, policy responses and market pricing.

Upfront, we would caution that the evidence should be interpreted carefully. The analysis is deliberately probabilistic. The historical sample of El Niño events is relatively limited, teleconnection patterns and economic structures can evolve over time, and national averages can obscure concentrated exposures in economically important agricultural, mining or hydropower regions. We therefore use the analysis to inform directional scenarios rather than point forecasts.

Within these limitations, we believe the potential effects can be assessed through a series of transmission channels. Drought, extreme heat or unusually heavy rainfall can disrupt crop production, reservoir inflows, hydropower generation, infrastructure and supply chains. These physical shocks can in turn affect food and electricity prices, economic growth, trade and public finances before ultimately feeding through to monetary policy, currencies, local interest rates and sovereign spreads.

Where an El Niño episode is associated with extreme heat, the transmission may extend beyond agriculture. Higher cooling demand can strain power systems and raise operating costs, while heat stress can reduce productivity in exposed occupations. For sovereign debt investors, the significance depends on the economic weight of exposed sectors and the resilience of the electricity system.

These are not abstract risks. The Panama Canal Authority, citing reduced rainfall in its watershed linked to the current El Niño, reduced available daily booking capacity to a combined 32 slots, with the latest reduction taking effect on September 15, 2026[2]. It warned that vessels arriving without confirmed reservations could face longer waits. Looking ahead, the UN World Food Programme has projected that El Niño could push at least 49 million additional people into acute food insecurity across 45 countries already expected to be food-insecure by the end of 2027[3]. For investors, the question is how disruption to transport and food systems could affect operating costs, inflation and public finances, and whether current valuations adequately compensate for those risks.

Policy can absorb, amplify or redistribute the shock. Additional food imports may support domestic availability but increase the import bill and, all else being equal, weigh on the external balance. Subsidies may soften near-term price pass-through while increasing fiscal or quasi-fiscal costs. Reserve use can support imports while reducing external buffers. For investors, the question is therefore not simply whether governments respond, but where the economic and financial costs ultimately land.

SIMILAR EXPOSURE, DIFFERENT OUTCOMES

Indonesia and the Philippines illustrate how similar El Niño-induced food supply risks can create different investment questions.

During the 2023–2024 El Niño episode, Indonesia increased rice imports and introduced measures aimed at maintaining domestic rice supplies and stabilising prices. The Philippines had a different exposure profile, including a large food component in its Consumer Price Index (CPI) basket and reliance on imported food and fuel. Investors therefore need to assess how inflation sensitivity, import dependence, policy tools and starting buffers interact to shape the macroeconomic and market outcome.[4]

Knowing where El Niño may affect weather conditions arguably tells investors where to look. It does not determine the market outcome.

Peru’s early 2023 coastal El Niño preceded the broader Pacific event that developed later that year[5]. Heavy rainfall and flooding damaged infrastructure and agriculture, while unusually warm coastal waters disrupted fisheries.

Despite the economic loss, Peru retained favourable access to international capital markets. Relatively low public debt, substantial international reserves and established policy frameworks provided important financial buffers. While they did not prevent the economic damage, they helped limit the risk that it would develop into a broader sovereign financing problem.⁵

The episode underscores why the severity of a physical shock is not necessarily a good guide to the severity of the financial risk.

A separate example comes from Zambia, where the 2023 to 2024 drought affected agriculture and hydropower at the same time, contributing to severe power shortages, weaker activity and higher inflation. The episode is a reminder that food, power and macroeconomic pressures can compound[6].

For sovereign investors, resilience is not simply about avoiding damage. It is about limiting economic disruption and preserving the capacity to finance a response.

MARKETS PRICE CONSEQUENCES, NOT EL NIÑO

We believe asking whether El Niño is ‘priced in’ can be too simplistic. Markets tend to price the expected consequences rather than the El Niño label itself, including agricultural commodity prices, inflation expectations, currencies, local rate curves, sovereign spreads and corporate earnings.

Monetary policy illustrates the challenge. In some economies, the effects associated with El Niño may resemble an adverse supply shock. Higher interest rates cannot restore rainfall, crop output or reservoir levels. Central banks may therefore look through a temporary food price rise if inflation expectations remain anchored. Their room to do so narrows if the shock persists, broadens into underlying inflation, weakens the currency or creates sustained fiscal and external pressure. Some central banks may retain room to ease, while others may delay easing or maintain a more restrictive stance.

But weaker fundamentals do not automatically mean an unattractive investment. Sovereign spreads, currencies and local rate curves may already reflect some or all of that risk. Ultimately, the investment conclusion depends on valuation.

WHAT SHOULD INVESTORS WATCH?

As El Niño develops, investors should look beyond the headline classification and focus on evidence that physical disruption is passing through the economy.

We intend to monitor the transmission in three stages. We first look at the physical evidence, including rainfall patterns, soil moisture, crop development, reservoir inflows and power generation. From there, we assess the macroeconomic effects through food and electricity inflation, import requirements, subsidies and other government responses. Finally, we look for evidence in market pricing, including inflation expectations, central bank policy, reserve adequacy, currencies, local rates and sovereign spreads.

That progression can help distinguish a weather event from an investment event. We do not expect El Niño to translate into a single global trade. More likely, it will expose differences in economic structure, policy capacity and market pricing.

The opportunity lies where the macroeconomic outlook changes before market pricing fully adjusts. That is where a climate signal could become an investment signal.

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