The Bloomberg Commodity Index, which tracks a basket of major commodities within the three major sectors of energy, metals and agriculture, was on track to show its first weekly rise in six. Gains in energy and metals, both industrial and precious metals helped offset losses in agriculture commodities. The dollar reached a 17-month high against a basket of currencies before weakening in response to muted US inflation data and not least, comments from Federal Reserve Chairman Powell. In a speech he highlighted the current strength of the US economy while also saying that it could face headwinds next year.
Bonds rallied, with US 10-year yields hitting a three-week low, while weakness returned to the US stock market. This came as key technology stocks suffered, and hopes faded of an imminent trade deal between the US and China at the G20 meeting in Buenos Aires later this month.
The energy sector continued to attract most of the attention given the extreme movements witnessed in both crude oil and natural gas. Weeks of crude oil selling triggered what looked like a final capitulation of longs on Tuesday when both WTI and Brent lost 7 per cent, the biggest one-day slump in three years. The following day natural gas at one point spiked by 20 per cent before finding sellers. As the weekend approached some of the losses and gains in both had already been clawed back.
The agriculture sector, led by soft commodities, traded lower amid a stronger dollar, especially against sterling which put cocoa under pressure. Short-term fundamentals in general remain weak with the dollar strength and ample supply weighing on prices of several key food commodities.
Natural gas’ extreme rally A steady rise in natural gas since the beginning of the month ended up in a major rout on Wednesday when the front month contract at one stage almost reached $5/term, a 50 per cent increase on the month, before finding sellers. It was carried higher by strong momentum on the combination of unseasonal cold weather across the US northeast raising short-term concerns about production being disrupted due to freezing of the well heads, together with low stocks.
A year of record production, but also record demand from domestic consumption and rising exports, has left stocks lingering at a seasonal 15-year low ahead of the withdrawal season that is about to kick off within the next couple of weeks.
However, and as we highlighted in our mid-week update, such a price surge was at risk of being at least partly reversed given how early in the winter season the rally occurred. A weekly stockpile increase slightly above expectations and weather forecasts showing moderating cold ahead helped trigger the biggest one-day retreat since at least 1990.
This week’s developments showed that the US natural gas market will be facing four months of volatility with a potentially colder than normal winter keeping the focus on the low level of stocks.
Crude oil stabilises The rout in crude oil accelerated and resulted in the potential final round of capitulation selling last Tuesday when Opec’s Monthly Oil Market Report confirmed what bulls increasingly had come to fear: Surging production from non-Opec producers, especially the US and Russia, and reduced demand for Opec’s own oil at a time when the market was already troubled by signs of slowing demand growth into 2019. Adding to this, we have the reduced impact of US sanctions against Iran’s export ability after Washington unexpectedly granted waivers for some countries, including some of the world’s biggest buyers.
The 7 per cent drop in WTI crude oil and 6.6 per cent drop in Brent were the worst one-day losses for these benchmarks in three years. It looked like a classic capitulation move with bulls finally throwing in the towel following weeks of relentless selling. It now raises the question of whether the market has overshot to the downside, just like Brent did to the upside at the beginning of October when it hit $87/barrel. We believe that it has, with our assumption being based on the above observations:
In addition, the 20 per cent drop in Brent crude oil since early October has come as a major relief to emerging market consumers already struggling with a strong dollar, high levels of dollar debt and the rising funding cost of funding it.
Several oil producers can ill afford the slump experienced since early October and on that basis, we can expect both Opec and Russia to step up their attempts to stop the rout and guide crude oil higher. Russia, which has based its 2019 budget on an oil price of $40/b, will be content with Brent at $70/b, while Saudi Arabia is desperate for a price closer to $80/b.
In the short term Brent crude could climb back towards $73/b (38.2 per cent retracement as per chart) and even higher ahead of year end.
[By Ole Hansen – Head of Commodity Strategy – Saxo Bank]