Ole Hansen –
Commodities found a bid for the first time in five weeks, with gains primarily driven by industrial and precious metals in a week punctuated by a US interest-rate rise.
The US Federal Reserve raised interest rates on last Wednesday for the third time in this cycle. The market had been pricing in potential of the Fed raising the projection for the number of future rate hikes. Instead the Fed kept the trajectory unchanged at two more rate hikes this year followed by 3+ in 2018.
Industrial metals recovered after a month of selling during which time zinc, nickel and copper all dropped by more than 10 per cent. Multiple supply disruptions impacting copper have yet to show any signs of being solved, and that will provide some underlying support to the metal.
Crude oil’s aggressive correction was halted by soothing comments from Saudi Arabia and the first, albeit small, US oil inventory drop this year. Sentiment in the oil market remains fragile at this stage, with Opec potentially being forced to extend its current production cuts beyond six months to achieve its goal of balancing the market.
Soft commodities were led higher by cocoa, which rallied after hitting a 10-year low last month. The combination of a triple failure to extend the rout below $1,900/t, a record speculative fund short and oversold levels helped support the price recovery.
Gold and silver spiked higher following the Fed meeting, with history repeating itself for a third time. The market had feared a much more hawkish tone from Fed chief Janet Yellen after strong recent economic data. The dovish rate hike, as it turned out to be, triggered short-covering and gold returned to relative safety above $1,221/oz.
After finding support ahead of $1,193/oz — a 50 per cent correction of the December-to-February rally —gold spent the week leading up to last Wednesday consolidating around the psychological $1,200/oz level. Investor participation has faded during this time, not least when looking at hedge fund positions.
In the week to March 7, funds cut the net long by 23 per cent to 94,000 lots, just below the five-year average of 104,000 lots. In the run-up to this week’s rate decision, the risk of a hawkish hike probably dampened that interest further. In other words, investor positioning was light into the FOMC announcement, with no strong sense of direction at this stage.
Geopolitical risks in Europe remain though markets sighed with relief after Dutch voters refused to hand victory to the right-wing populist candidate Geert Wilders. Attention now turns to the French presidential election, with the first round scheduled for April 23. The latest poll suggests that the far-right candidate Marine Le Pen has extended her lead over centrist Emmanuel Macron in the first round. Such news will add some support to gold, not least when priced in euros.
While we await further developments, gold is likely to settle into a range between $1,220/oz. and $1,240/oz. After gold survived another US rate hike and some stiff headwinds during the past few weeks, we sense that underlying demand, albeit not strong at this stage, will keep the market supported.
As mentioned above, soothing comments from Saudi Arabia and the first, small drop in US oil inventories this year helped stop crude oil’s aggressive price correction.
Brent crude oil almost touched the psychological $50/barrel mark, while WTI bounced after retracing 61.8 per cent of the November-to-January rally.
But sentiment remains fragile at this stage, with Opec potentially being forced to extend current production cuts beyond six months to achieve its goal of balancing the market. In an interview with Bloomberg, the Saudi energy minister said the deal to cut production may have to be extended unless stocks return to the five-year average.
An extension of the deal would require Opec and non-Opec producers to agree. There have been signs of frustration from Saudi Arabia related to slow compliance from Russia and Iraq. With those countries in mind, Saudi Energy Minister Khalid al Falih recently said the Kingdom would not allow itself to be used by others. The question remains how a deal would survive for a full 12 months given the signs of unease after just 2-1/2 months.
With OECD commercial oil stocks as a gauge, we find that stocks stood at 3 billion barrels in January, some 278 million barrels above the five-year average. A reduction on the scale called for by Saudi Arabia before July is almost impossible to achieve considering the headwind from rising production by countries outside the group currently cutting production.
The International Energy Agency’s latest monthly ‘Oil Market Report’ sent a message to those looking for a re-balancing of the oil market that they should be patient, and hold their nerve. The question remains whether funds and others being positioned to higher prices will have the patience, especially after the rapid selloff seen this past week.
Much depends on the positioning in the market. The speculative longs which peaked above 1 billion barrels in February are likely to have seen a sharp reduction, while short-sellers have emerged from hibernation. A reduction in the number of long positions relative to the number of shorts will help stabilise the market. Following the slump, WTI and Brent crude oil both found resistance at the first hurdle, which was the 38.2 per cent retracement of the latest selloff.
The market will continue to consolidate as long as support at $48/b for WTI crude and $51.15/b for Brent is not broken.
[Ole Hansen is head of commodity strategy at Saxo Bank]