Head of Commodity Strategy
Summary: Weekly commodity update focusing on the latest developments driving the sector. Focus this week on surging silver prices as the Reddit crowd shift their focus from fund shorted stocks to commodities. Also recovering grains, stable oil markets and the potential impact on industrial metals from the Chinese liquidity squeeze.
The commodity sector finished a very volatile January on a high note with the Bloomberg Commodity Index heading for its fourth consecutive month of gains, led by the energy and grains sectors. The early January jump in U.S. bond yields, which helped set the dollar on route for its best month since September, triggered some headwinds against which the precious metal sector in particular struggled to put up a defense. Despite the continued rolling out of vaccines, the global pandemic continued to go from bad to worse with prolonged lockdowns in Europe and the US being joined by new restrictions in Asia, most noticeably in China.
Crude oil traded quietly within a narrow range with tightening market conditions due to production cuts, led by Saudi Arabia, continuing to offset the risk of a longer-than-expected road to recovery in global fuel demand as lockdowns are maintained and expanded.
The grain market returned to strength as the recent correction proved short-lived given a continued undercurrent of strong fundamentals. Corn led the way as it recovered from its 10% correction to reach a new 7-1/2 year high on the prospect for continued strong overseas demand, especially from China. Soybean traders focused on the upcoming harvest in Brazil where recent rains have gone from a blessing to a curse as the harvest season is about to start.
Industrial metals traded lower while iron ore slumped the most since September after Chinese authorities began reigning in liquidity in order to curb rampant speculation across markets. The abundance of liquidity that has been provided by the PBoC during the past nine months in order to support the economy from the Covid-19 fallout has, similar to the western world, helped fuel a speculative frenzy in everything from housing to equities and commodities. By pulling liquidity the overnight borrowing rate has now risen above 3% from 0.6% earlier this month. Iron ore, one of the best performing commodities last year, tumbled by the most since September as the market worried reduced fiscal stimulus would slow demand.
The stock market, meanwhile, experienced a very volatile week with the names like GameStop Corp, AMC Entertainment Holdings and WallStreetBets becoming household names. The retail-driven spike in the most shorted US stocks as well as the mentioned cash squeeze in China created a wave of uncertainty into the wider market with the Cboe Volatility Index recording its biggest daily jump in three years. The S&P 500 futures, meanwhile, recorded its worst day since October as the volatility spike helped drive a wave of deleveraging across markets.
Silver (XAGUSD) surged the most since August after the WallStreetBets group of traders on Reddit targeted the white metal after someone called it “The biggest short squeeze in the world”. The rally in silver helped drive the XAUXAG ratio to the lowest level since March 2017, thereby further fueling a momentum-driven rally which silver traders love. Bullion banks tend to short futures as a hedge against commitments in the spot market. Something that over the years has attracted a crowd of conspiracists believing the metal was kept artificially low in order to hide the existence of inflation. The buying was concentrated in ETF’s backed by silver and mining companies where short positions were being held.
This past week we released our Quarterly Outlook titled “The commodity bull market of 2021” where we described the reasons for our positive outlook: “Silver has returned to its long-term value against gold with the prospect of a further upside depending on the strength of both industrial and investment demand. The green transformation could spark a surprise in terms of industrial demand with the photovoltaic (PV) market expected to be strong as many countries embark on renewable energy projects. Based on our forecast for gold to reach $2200/oz, silver’s high beta should encourage a continued outperformance with the gold-silver ratio heading towards the low 60s during 2021, thereby driving the price of silver towards $35/oz.”
Additional stock market weakness and deleveraging could temporarily pause our bullish commodity view as very elevated positions are being reduced across markets, including in commodities. Months of reflation focus, expectations for a vaccine-led recovery in global demand for raw materials as well as emerging tightness in key commodities have driven a surge in demand from speculators.
In the week to January 19, speculators held a near-record long position of 2.5 million lots across 24 major commodity futures representing a nominal value of $127 billion. The table below shows the current net position relative to the 12-month high and low. A zero score represents a 12-month low while 1 is the highest seen in 12-months.
Gold, silver and the PGM’s are currently some of the commodities where positions are the least stretched. This follows a month where rising bond yields and the stronger dollar helped trigger a bout of long liquidation in the futures market. Most noticeably gold where the net long has slumped to a 17-month low at 105,000 lots (10.5 million ounces), some 180,000 lots below the position that helped trigger the deleveraging crash last March.
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