Quarterly Outlook
Macro Outlook: The US rate cut cycle has begun
Peter Garnry
Chief Investment Strategist
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.
Disclaimer
The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.
Please read our disclaimers:
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
- Full disclaimer (https://www.home.saxo/en-gb/legal/disclaimer/saxo-disclaimer)