Head of Commodity Strategy
August is normally a quiet month for markets, but this year has been anything but so far. The markets have been rattled by a continued escalation of the trade war rhetoric between the US and China, with investors concerned this increases the future risk to global growth and demand.
We see raised geopolitical tensions after the US slapped additional sanctions against Russia and Turkey while resuming sanctions against Iran. The latter could potentially result in a looming supply crunch for crude oil, which could divert the current focus away from the price-negative impact of the trade war.
The latest trouble to hit the markets has been a simmering financial crisis in Turkey which blew up this past week when the Turkish lira at one point lost 35% of its value against the dollar. The European Central Bank’s warning about the potential risks to European banks from a collapsing lira helped send the euro to a 14-month low thereby adding ammunition to the dollar which has seen continued strength – not least against emerging market currencies – for several months now.
During the past month the stronger dollar and the “trade war leading to lower growth” narrative have helped send energy prices (except natural gas) lower while raising the potential of China once again initiating a major stimulus program in order to prop up its economy.
The latter helped halt the slide in industrial metals with copper finding some additional support on the risk of supplies from the world’s largest mine in Chile being disrupted should a looming strike action break out.
Global wheat prices have jumped during the past couple of months as the outlook for production in Europe, Australia, and the Black Sea region continued to deteriorate. Wheat, corn, and rapeseed production in these major production centers have been hard hit by extreme heat and lack of rain.
In Denmark, where Saxo Bank is headquartered, the warmest and driest summer since records began in 1874 has led to a 40% drop in output.
Chinese tariffs on US soybean imports, a recent worsening (from a strong base) of US crop conditions, and the aforementioned weather woes around the world have left the market desperate for solid data to provide some further price guidance. On August 10 the US Department of Agriculture will release its monthly “World Agriculture Supply & Demand” report, which provides the market data on yield, production, and stocks of the three major crops.
Being the first report of the season to include field surveys of US crops, the August report traditionally tends to yield some wide price swings.
Gold continues to look for support following its 12% slump from the April high at $1,365/oz. During the past week, buyers showed signs of returning as it continued to find support just above $1,200/oz, a level which has provided support on few occasions over the past couple of years.
The latest challenge of support occurred on the back of the additional dollar strength that followed the accelerated collapse of TRY. The risk of contagion from the Turkish fallout, however, helped bring out some safe-haven bidding as well, which is something that has been missing during the past few months.
During this time the market has become focused on the very high correlation between gold and the Chinese yuan, both of which have seen significant weakness.
With the CNY heading for its weakest weekly close in more than a year, gold is likely to continue to struggle unless we begin to see a real threat to the stability of the European banks with the biggest exposure to Turkey.
Hedge funds continued to sell gold during the latest reporting week up until July 31. The net-short hit a fresh record with the 51% jump primarily being driven by another surge in the gross-short to 153,596, also a record. Bears remain in control for now with the upside yet to be challenged. A change in the short-term outlook to the dollar or increased focus on safe-haven demand therefore carries a risk to bears holding such an elevated position.
Crude oil remains firmly stuck between two currently opposing forces. During the past month, trade war concerns and a supply surge from Opec and Russia helped reduce the markets unease about the looming supply crunch when the US introduces additional sanctions against Iran in November. The price of Brent crude oil has returned to the lower end of its established range between $71/b and $81/b, an area we highlighted in our third quarter outlook.
The International Energy Agency’s August oil report said that supply fears had eased due to rising production and a slowdown in demand during Q2 and Q3. Against this, the IEA also noted that: “As oil sanctions against Iran take effect, perhaps in combination with production problems elsewhere, maintaining global supply might be very challenging and would come at the expense of maintaining an adequate spare capacity cushion”.
The actual impact of renewed sanctions against Iran remains to be seen but a reduction at the upper end of expectations – above 1 million barrels/day – would undoubtedly leave the market too tight for comfort and send the price higher.
In the short term, however, the battle for support at $71/b continues. Taking a look at the crude oil position currently held by funds, we find a market ill-prepared for additional weakness. While the gross-long position (blue area) has been cut by almost one-third since hitting a record back in January, the combined gross-short position (red area) is currently near the lowest seen during the past six years.
In raising its global demand forecast for 2019 slightly to 1.5 million barrels/day, the IEA has yet to see any negative impact on demand from the current trade war. While the risk of a longer-term impact cannot be ruled out, we believe that the short-term focus eventually will turn to the increase risk of supply challenges, not only from Iran but also from recent signs that US production growth is slowing due to continued pipeline constraints.
2024: The wasted year
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
