Head of Commodity Strategy
Summary: An uptick in risk appetite saw the dollar and equities surge as the week drew to a close but the cheer didn’t seep into commodities, which extended their losing streak.
The dollar reached a fresh 16-month high against a basket of currencies before running into long liquidation in response to Brexit optimism, China announcing additional measures to stimulate its economy and not least the above-mentioned trade comment from President Trump.
Trump and China’s Xi Jinping will meet at the G20 meeting in Argentina between November 30 and Dec 1. Earlier this week the US president threatened to apply tariffs on all remaining Chinese imports but then a phone call, the first in six months, between the two leaders suddenly lifted expectations that a solution could be found. We would strongly suggest that this is nothing more than theatre designed to boost the market ahead of next Tuesday’s midterm elections.
The weaker dollar especially against the Chinese renminbi helped give the metals a boost. John Hardy, Saxo Bank’s Forex Strategist noted that: “We have speculated over the last couple of days that the CNY boost could be a move by China to pull the currency well away from its assumed floor (7.00 in USDCNY terms) ahead of the G20 meeting”.
These developments, nevertheless, helped lift industrial metals, and with that demand for semi-precious investment metals such as silver and platinum. Both of these have struggled to keep up with gold during the past few weeks. Silver showing signs of life with a break above $14.85/oz signalling a possible extension, initially to $15.23/oz.
Instead Brent crude has returned to its $70/b to $80/b range that prevailed between April and August. While we still maintain the view that Brent crude oil could reach $80/b before year-end, the risk of an extension above has been sharply reduced this week with the change in sentiment being caused by these three major drivers:
a. Surging US and Russian oil production. The EIA reported this week that US oil production jumped 3.8% in August to reach a fresh record of 11.346 million barrels/day, a staggering year-on-year jump of 2.1 million barrels/day. Russia meanwhile said its October production reached 11.412 million barrels/day, a post-Soviet record.
b. Reuters and Bloomberg Opec production surveys for October both showed that production, despite the drop from Iran, had reached the highest level since 2016. The most noticeable increases came from Libya (+170k b/d), Saudi Arabia (+150k b/d) and UAE (+80k b/d). Iran’s production only slipped by 10k b/d and is down 400k b/d since May when sanctions began to bite.
c. The US is expected to give eight countries, including China and India, waivers from the Iran sanctions. This move should ensure that Iranian exports will be impacted by less than originally feared, thereby helping prevent the sanctions from lifting the price of oil.
While US oil production is rising at a record pace Opec has now abandoned the collective agreement to keep production capped. This comes in response to threats during the past few months that US sanctions against Iran could trigger a price spike which relatively quickly would lead to demand destruction and much lower prices.
The above-mentioned reversal in the dollar, not least against the Chinese renminbi, combined with a steady increase in holdings across exchange-traded funds backed by gold, helped support a strong bounce which from a technical perspective has left the yellow metal with two key levels to focus on in the short term.
After finding resistance at $1,240/oz, the 38.2% retracement of the April to August sell-off, gold then challenged and found support at $1,211.6, the first line in the sand as per the below chart. We maintain a bullish outlook for gold and would only begin to worry about a deeper correction should the price drop below $1,192/oz.
A weaker dollar would not only support gold given its inverse correlation, it would also support a pick-up in demand from emerging market consumers and central banks who have suffered from greenback strength. However, next week’s US midterm elections will help determine the direction of the dollar and potentially also gold. Should Trump, against current expectations, lose both the Senate and Congress, his domestic agenda would be left crippled. Instead he would likely divert his focus towards his international agenda. Given his comment that a trade war is easy and winnable this could lead to a reduced appetite for seeking a compromise with China.
Gold traders are now focusing on $1211/oz and $1,243/oz for signs of the next move.