Oil’s Advance Suffers another Sharp Decline as Supply-and-Demand Concerns Surpass Risk Trends

North American Commodity Update

Commodities - Energy

Oil’s Advance Suffers another Sharp Decline as Supply-and-Demand Concerns Surpass Risk Trends

Crude Oil (LS NYMEX) - $83.82 // -$1.30 // -1.53%

Though price action for the benchmark US currency futures contract was extraordinarily choppy this past week, it would nevertheless put in for four consecutive daily advances through Friday. However, given the fundamental uncertainty surrounding investor sentiment and the underperformance of those assets that have establish a significant correlation to the health of this particular commodity, this impressive run would not hold. Starting the new trading week off with a substantial loss, the active NYMEX crude contact would put in for one of the most aggressive corrections of those assets classes with a distinct connection to economic growth. In contrast, the Dow Jones Industrial Average ended the day nearly unchanged and those currency pairs with large yield differentials were similarly little moved. For the energy market’s standard risk appetite drive, the lack of resolution on Greece’s financial quandary weighed heavily. Disappointment in the lack of tangible progress in this ever-evolving crisis translated into inaction and uncertainty rather than disappointment and selling. Oddly enough, crude would further diverge from the US dollar (its primary pricing instrument) as the benchmark currency worked on its second daily contraction.

For crude traders, market mechanics themselves have exposed general abnormalities. At the surface, the futures market has seen a remarkable decline in volume (on the New York Mercantile Exchange) from the spike two weeks ago. At the same time, open interest is still trending upwards towards its highest level in two years. These two conditions, along with the CBOE’s Crude Oil Volatility Index hovering just off its lowest levels in two years, would suggest a lasting state of stability has established itself. However, such conditions clearly contrast from the level of activity in underlying price action itself and are at odds with the fundamental risks posed to risk appetite as well as natural levels of demand. Another market-based sign that conditions are perhaps less passive than they may seem at first blush is the premium of US-based West Texas Intermediate over its equivalent UK Brent contract. The $2.63 excess on the former can be partly explained by the excess inventories building up at the Cushing, Oklahoma hub. Furthermore, the contango (when a futures contract with a later maturity date than the active contract) between the June and July contracts on the WTI grade is at its widest since December 14th ($2.27).

Such divergences are partially born from the imbalance between speculative interest and fundamental demand. These two essential elements of price discovery can diverge as long as one fundamental ingredient is under intense scrutiny and the other remains stable. In the near future, it may be the traditional supply-and-demand argument that bears greater weight on price action. Through an intense week of economic releases, this Friday brings the advanced reading of US 1Q GDP. As the world’s largest energy consumer, expansion from this powerhouse is essential to draw the fundamental fair value up to the high speculative level that investors have kept the market at.





Commodities - Metals

Gold Little Changed Monday as Risk Trends Cool, Dollar Eases Back

Spot Gold - $1,153.70 // -$3.90 // -0.34%

The combined influences of risk appetite, dollar hedge and alternative investment left gold in a lurch Monday. Both investor sentiment and the US dollar would put in for opposing intraday reversals through the day. For equities, the Asian markets opened with a thunderous rally from Japan’s Nikkei 225 index. The exuberance was toned down when the European markets took over for liquidity; and the US benchmarks would end the day ultimately unchanged. In contrast, the benchmark currency opened the week with a tempered advance that would inevitably turn into a loss for the day. This back and forth is ultimately a reflection of congestion where risk appetite controls the bearing and tempo. The congestion of these more ‘straight-forward’ asset classes further complicates the scene for the precious metal. Not far from the record highs set in December, the commodity is stuck between its role as a speculative instrument and safe haven. Despite deadlines and assurances from key policy makers, the Greece situation is still holding sovereign debt risk hostage. The financial strapped nation asked this past Friday to active the financial rescue plan that the EU and IMF had vowed just a few weeks ago. Yet, despite this promise of assistance, there is still obvious hesitancy in providing support – a fact that has not gone unnoticed by investors. The market is now waiting to see if and when the funds will be released. The longer a resolution takes, the more concerned the market will become. In the event of a panic, gold will strain between its speculative roots and a safe haven status that is helpfully leveraged by concerns surrounding the fungibility of government debt.

Spot Silver - $18.30 // -$0.04 // -0.19%

Given the low level of activity in equity markets by the US session and the ambling pace of the US dollar, silver would put in for a slow session Monday. The day’s range was the smallest since March 15th – though the spot market would nevertheless put in for its highest intraday swing in six sessions. Fundamentals are more closely tied to risk appetite than the dollar’s meandering pace; but underlying market conditions suggest speculative interest is growing. Volume on the active contract has steadily grown over the past month and open interest is just off its highest level in three months. This divergence between price action and turnover suggests volatility could pick up soon.



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Written by John Kicklighter, Strategist
Questions or Comments about this article? Send them to jkicklighter@dailyfx.com