WCU: Oil succumbs to growth concerns, but tightness persists
Head of Commodity Strategy
Summary: The month of May went from bad to worse as the trade war rhetoric between the US and China moved up a notch. Commodities, dependent on growth and demand, took fright, with the energy sector leading the Bloomberg Commodity Index to a weekly loss.
The overall weakness in EM stocks, not least South Korea, given its importance as a gauge for activity in China, has further raised concerns that the current slowdown across the major economies is unlikely to be reversed anytime soon. The US is not immune, with Q2 growth heading towards 1%, while additional headwinds are being stirred up by the strong dollar, which this past week, according to one US Fed measure, reached its highest level since 2002.
Industrial metals struggled amid the current growth worries with HG copper at one stage almost giving back the gains for the year. Precious metals meanwhile received a lukewarm bid despite support from falling stocks and lower bond yields. Gold’s inability to move higher despite an overwhelmingly supportive backdrop remains a puzzle at this stage.
That was until this week when the latest escalation of the trade war triggered a rethink and fresh selling from macro-orientated funds worried that the outlook beyond the current tightness could begin to deteriorate. Adding to this is the dollar, which, according to the US Fed’s trade weighted broad dollar basket has reached its highest level in 17 years.
Regarding the recent escalation of tensions in the Middle East it is our belief that the risk of it leading to an armed conflict and a subsequent spike in crude oil prices is very unlikely. With President Trump often measuring his success on low gasoline prices and high stock market valuations, a war with Iran does not make any political sense with an election to be fought in 2020.
However, with the global economy showing further signs of cooling as the impact of the US–China trade war begins to be felt outside of Asia, the risk is that slowing demand growth eventually will overtake the risk of lower supply. The Paris-based OECD has downgraded further its projection for global growth this year while Eric S. Rosengren, the Boston Fed president, warned that the trade war is increasing downside risks to the US economy.
While WTI crude oil led the weakness, the selling in Brent picked up following the break below key moving averages before finding support at $67/b and bouncing ahead of the long weekend that will see the US and UK markets shut on Monday, May 27. Having rallied almost non-stop since late December it makes sense for the market to pause given the multiple opposing drivers currently in existence. Brent crude oil remains in an uptrend and this will only, from a technical perspective, be challenged on a break below $65.8/b.
The dollar remains a key drag with its continued strength against most of the major currencies, not least the Chinese renminbi where speculation is rife about whether the Peoples Bank of China will eventually allow it to weaken beyond $7.0. While the US Fed has adopted a wait and see approach, the policymakers may be overtaken by current events, which is raising the risk of a bigger and sharper response in terms of cutting rates than what is currently expected. On that basis we are not ruling out a potential and surprise 50 bps rate cut before September, a move which could hurt the dollar while helping gold to break the current deadlock and move higher.
The correction from the February peak has lost momentum with a sideways trading pattern having taken over. A weekly close below $1,275/oz would increase the risk of a downside extension to $1,253/oz while a break above $1,303/oz is needed to attract renewed demand.
Latest Market Insights
Outrageous Predictions 2023: The War Economy
- The constantly growing global need for energy drives the world's richest to huddle up and launch a R&D project in a size the world hasn't seen since the Manhattan Project gave the US the first atomic bomb.
French President Macron resignsThe political stalemate in France and the rise of Marie Le Pen following the 2022 elections corners President Macron, forcing him to give up on politics and resign from his position. At least for now.
Gold rockets to USD 3,000 as central banks fail on inflation mandateAs markets and central banks realise that the idea that inflation is transitory is wrong, and that prices will remain higher for longer, gold is sent through the roof, hitting a price tag of USD 3,000
EU Army forces EU down path to full unionWith continued challenges in the region and a US military that isn't aggressively enacting its former role as global policeman, the European Union agrees to create its own armed forces, bringing the whole region closer.
A country agrees to ban all meat production by 2030In an effort to become one of the global leaders on the path to net-zero emissions, one country decides to not only put a heavy tax on meat, but to ban domestic production entirely.
UK holds UnBrexit referendumFollowing a recession and domestic pressure, the United Kingdom is thrown into political turmoil that will end with a vote to wind back Brexit.
Widespread price controls are introduced to cap official inflationHistory tells us that with the war economy comes rationing and price controls. And this time is no different, as policymakers introduce strict price controls that lead to a range of unintended consequences.
OPEC+ & Chindia walk out of the IMF, agree to trade with new reserve assetSanctions against Russia have caused widespread turmoil due to US Dollar moves in countries across the globe that don't consider the US an ally. To relieve themselves from this, they leave the IMF and create a new reserve asset.
USDJPY fixed to the USD at 200 as Japan overhauls financial systemFollowing the challenges that faced the Japanese Yen in 2022, the Bank of Japan attempts to keep the currency from sliding. Unsuccessful on the long-term, Japan will launch a reset of its entire financial system.
Tax haven ban kills private equityWith the war economy comes an increased focus on national interests and sovereign nations' ability to assert themselves. In that regard, the OECD countries turn their attention on tax havens and pull the big guns out, banning them altogether.
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)