El Nino - The Wider Supply Chain Stress

01/07/2026

The World Meteorological Organisation now assigns a greater than 60% probability to El Nino development over summer 2026. Most market participants will read this as more than a weather forecast, but will likely look no further than the food security trade - with a cursory glance at a wheat chart to divine how seriously the threat is being priced. The scenarios explored in this document do not represent the most probable path of outcomes - but they carry sufficient weight to justify building considered exposure into an economically robust portfolio.

Academic research over recent decades has established causal links between ENSO (El Nino Southern Oscillation) shocks and commodity pricing - with the degree of influence fluctuating as price mechanisms and familiarity drive mitigation and adaptation. More recent studies indicate a stronger price reaction - some of the possible factors are explored in the details that follow.¹²³

Markets have historically priced the supply constraint on critical metals on geological timelines; the well-documented deterioration of ore grades tightening the economics of extraction over decades. More recently attention has turned to the midstream: the value created in separation and processing, and the nations that dominate it. What has not yet been fully considered in the new paradigm of fragmented markets and supply chains, is the possibility that a climate event could significantly compress or disrupt that supply timetable - a compound factor to geology and political leverage simultaneously.

The critical minerals required for electrification, defence, and digital infrastructure share a vulnerability that conventional supply chain analysis treats as two separate problems, which in practice are not separate at all. The first is water consumption in the extraction and processing of ore, the second is dependence on hydroelectric power for energy-intensive smelting and refining - both raise costs, ultimately commanding a price response.

Two dependencies, one cost floor

Hydropower dependencies transmit rapidly when reservoir levels fall. The closure of Mozal - Africa's second largest aluminium smelter - in March 2026 was reported as a commercial dispute over electricity supply terms. The difficulties in achieving an agreement would have been in no small part due to Mozambique's hydro generation capacity falling more than 30% in 2025 as a consequence of historically low rainfall.

Water processing dependencies tend to represent slower structural constraints. Declining ore grades require more processed material per tonne of refined output - more processing requires more water. In water-stressed mining regions, sustainable production rates are increasingly governed by aquifer recharge flows alongside ore availability. The capital required to address water problems offers some illustration of the scale of the cost shift. Antofagasta recently committed $900 million to extend the life of its Zaldivar mine in Chile until 2051 - an investment driven primarily by the need to replace groundwater extraction with treated municipal wastewater piped from urban centres. As water constraints proliferate across the industry, infrastructure premiums of this nature may increasingly become a structural feature.

Chile's Atacama region has endured a decade-long structural mega-drought that has depleted aquifers and driven the industry toward desalination at significant cost. El Nino does not create the problem in Chile; it worsens an already severe condition. Chile offers a forward illustration of what other water-stressed mining geographies may face as their own structural conditions tighten.

The role of alternatives

The response to hydropower stress is substitution with the most likely candidates - coal-fired generation and renewable energy. Both offer partial solutions, though neither without constraint or cost consequence.

Aluminium production requires continuous baseload, with any significant interruption risking damage to the electrolytic process. Solar and wind are intermittent by nature and cannot readily substitute for dispatchable hydropower at the scale and reliability that smelting demands - and are unlikely to offset a sudden seasonal hydropower deficit at the speed required.

Coal can fill the short term gaps - during Yunnan's hydropower shortfall, smelters turned to coal-fired backup generation at a materially higher cost than the hydropower that originally justified location of the facility. Europe's Carbon Border Adjustment Mechanism is a compounding factor as it progressively prices the carbon content of imported metals. Aluminium produced on coal-fired power faces rising tariff friction on export to European markets.

Desalination offers a more durable water solution but introduces an energy dependency of its own. BHP at Escondida, Codelco, and Antofagasta at Centinela are all investing billions in coastal desalination plants. These address the freshwater problem but require significant electricity that draws on grids with meaningful hydropower exposure in several key geographies. In that sense, the water solution may introduce an indirect hydropower vulnerability even where there was none before.

Recycling provides a growing bypass to primary production. Secondary aluminium requires roughly 5% of the energy of primary production, and secondary copper around 20%. Both processes are significantly less water intensive, bypassing the flotation, leaching, and concentration steps that drive water consumption in mine-based production. For lithium and rare earths, end-of-life recovery infrastructure remains nascent and recovery rates low.

A little bit of politics

In Indonesia the political constraints on alternatives may be as binding as the technical ones. A government already absorbing $12.4 billion in energy subsidies to prevent social unrest is unlikely to simultaneously tell its population that industrial coal consumption is expanding to keep predominantly Chinese-owned nickel smelters running. When water stress forces an allocation choice between industrial processing and domestic welfare, the political economy would appear to favour the latter.

Indonesia is perhaps the most acute current example, but the dynamic is not unique to it - similar allocation pressures have emerged across hydropower-dependent economies in southern and west Africa, with domestic welfare consistently taking precedence over industrial continuity.

The geography of the cost shift

The metals most critical to the energy transition and defence applications appear disproportionately concentrated in the geographies most exposed to this compounding cost pressure. The map below illustrates the overlap between primary processing locations and the El Nino drought risk zones identified by the Met Office and NOAA for the 2026 season.

Drought zones derived from Met Office and NOAA El Nino precipitation impact data. Peak drought months shown in legend. Chilean sites marked as structurally water-stressed - decade-long Atacama mega-drought independent of El Nino cycle, though El Nino worsens an already severe condition. Processing locations indicate primary concentrations. Sources: Met Office Crown copyright; NOAA Climate.gov; ICSG; IAI; USGS.

Copper

Zambia and the DRC depend on the same Zambezi and Congo river hydropower systems that failed to deliver adequate power to Mozal. Ivanhoe's Kamoa-Kakula complex - the largest new copper smelter on the African continent, commissioned in November 2025 with 500,000 tonnes per annum capacity - was already experiencing reduced power availability in early 2025 due to drought conditions affecting hydroelectric capacity across the region. It is notable that the world's most significant new copper project appears dependent on the same hydrological system that contributed to a major smelter closure within months of its commissioning. In Chile, the direct water consumption constraint compounds the hydropower story. Average copper grades at Codelco's operations have fallen from 1.02% to 0.66% in recent years - approaching a 50% reduction. Processing the same quantity of copper now requires significantly more water from aquifer systems already under considerable stress.

Aluminium

Yunnan province accounts for roughly 10% of global aluminium smelting capacity and has been in persistent drought for five consecutive years. China's green aluminium strategy relocated significant smelting capacity to Yunnan specifically to access cheap hydropower. Only a little over half of the planned capacity shift appears to have materialised, with the hydropower proving less reliable than anticipated. Norway, which produces roughly 40% of Europe's aluminium almost entirely on hydropower, faces its own precipitation stress. Norsk Hydro is investing NOK 2.5 billion in pumped storage to address it - a construction timeline that runs to 2030, with a capital cost that will likely need to be recovered through the aluminium price.

Lithium

The Atacama salt flat and the broader Lithium Triangle account for roughly 60% of global lithium reserves. Brine extraction draws down aquifer systems already stressed by what appears to be a decade-long mega-drought. SQM and Albemarle have both faced regulatory pressure to reduce extraction rates. The sustainable extraction rate would likely fall further under El Nino conditions as aquifer recharge slows.

Nickel

Indonesia produces roughly 50% of global nickel and sits squarely within the El Nino precipitation shadow. Hydropower underpins processing operations across Sulawesi and Halmahera. The political economy constraint described above suggests that under stress conditions, industrial water and power allocation may lose out to domestic welfare needs - a cost and production risk that conventional technical analysis of the ore body does not readily capture.

Rare earths

Processing of the heavy rare earths most critical for defence applications - dysprosium and terbium for permanent magnets - is concentrated in Jiangxi province in southern China. Jiangxi sits in the same El Nino precipitation shadow as Yunnan. The ionic clay deposits that produce these materials use in-situ leaching methods consuming up to 200 cubic metres of water per tonne of rare earth oxides produced.

Where processing migrates - and what it costs

Some migration of processing capability toward geographies with more stable power mixes and lower water stress - Canada, Australia, Finland, parts of northern Europe - appears likely over the medium term, driven by rising cost premiums in stressed locations. But it would arrive with its own costs and complications in the form of governance, regulatory friction, and community resistance. And it faces a further structural obstacle that has historically proven decisive: incumbent processors, primarily China, have managed the emergence of competing geographies by increasing supply at precisely the moment when nascent projects require price certainty to justify their capital commitment - challenging the new capacity processing economics before they have fully established themselves. Initiatives such as Project Vault - the Trump administration's $12 billion public-private critical minerals reserve launched in February 2026, which includes explicit price-floor mechanisms designed to ensure allied producers can compete against subsidised Chinese supply - represent one policy response to that dynamic.

Whether they prove sufficient remains an open question. What does appear reasonably clear is that the water and energy constraints on incumbent processing capacity are making the strategy of supply suppression progressively more expensive to execute. Migration of capacity is perhaps better understood as a stabilising factor that arrives slowly, rather than a solution to higher prices.

Academic references

1 Ubilava, D. (2018). The Role of El Nino Southern Oscillation in Commodity Price Movement and Predictability. American Journal of Agricultural Economics. University of Sydney.

2 Cai, Z. and Sakemoto, R. (2022). El Nino and Commodity Prices: New Findings From Partial Wavelet Coherence Analysis. Frontiers in Environmental Science. doi: 10.3389/fenvs.2022.893879

3 Dufrenot, G. et al. (2025). Climate change impacts on commodity price stability through changing ENSO patterns. World Development. doi: 10.1016/j.worlddev.2025.106894

Industry and market sources

i Antofagasta $900 million Zaldivar mine life extension to 2051. Mining.com, 8 June 2026.

ii Chile copper mining shift to desalination as standard water practice. UPI / Simultaneous megaproject filings signal Chile mining shift, 20 March 2026.

iii Indonesia 2026 energy subsidy allocation of $12.4 billion. Lowy Institute, The Interpreter: Indonesia believes in cheap fuel, 7 April 2026.

iv Kamoa-Kakula power availability reduced by drought conditions affecting hydroelectric capacity in Zambia and Mozambique. Ivanhoe Mines 2025 production guidance statement, January 2025.

v Yunnan province aluminium production curtailments - fifth consecutive year of drought. Reuters / Renewable Energy World, 2023-2024; Yunnan Water Resources Department, January 2025.

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