WCU: Commodities struggle to navigate sanctions and tariffs

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.