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An Intraday Reversal in Risk Appetite Salvages Crude from Steep Morning Losses

An Intraday Reversal in Risk Appetite Salvages Crude from Steep Morning Losses

2010-05-25 23:30:00
John Kicklighter, Chief Currency Strategist

North American Commodity Update

Commodities - Energy

An Intraday Reversal in Risk Appetite Salvages Crude from Steep Morning Losses

Crude Oil (LS NYMEX) - $69.94 // -$0.27 // -0.38%

Beginning in the early Asian session and continuing through to the pre-US open trading hours, crude would pitch into a selling trend that would build in intensity as European liquidity slowly filtered into the market. In fact from Monday’s US session close, the active WTI futures contract would topple an impressive 4.36 percent by the time the New York exchange would come on line. This momentous decline (and the subsequent recovery) was heavily influenced by the temp that risk aversion would set for the broader speculative markets. For contrast, the Japanese Nikkei 225 and UK FTSE 100 would both tumble more than three percent through their respective sessions; government bonds for the stalwart industrialized economies met significant demand; and safe havens like the US dollar and gold would swell with the influx of wealth that was fleeing the risk implied in fundamentally unstable capital markets. What was driving this particularly flight to safety? Media would assign the blame to tensions in North Korea and new developments in the European Union’s financial crisis. However, sentiment had already established its bias long before. In reality, these new issues are simply new sparks to activate a preconceived desire to unwind risky positions. This better explains the intraday reversal in sentiment and crude that carried the benchmark to a nearly unchanged status for the day. Without real fundamental fodder to genuinely raise the threat level of a large or even global financial crisis, there is a lack of conviction in taking the next step towards longer-term bearish trends.

Turning from the whiles of sentiment to more objective market influences, the discrepancies between contracts and crude types has notably diminished. Looking at the NYMEX contango (the condition where the deferred futures contract is more expensive than the active nearby), the difference between the contracts for July and August expiration has narrowed to $1.35 (from a 15-month high of $4.59 set just two weeks ago). More importantly for potential arbitrageurs who believed the benchmark US WTI grade was artificially deflated by an inventory build up in Cushing, Oklahoma; the premium that the Brent contract has held for two months now stands at a much more bearable $0.80 (from nearly $7 just a few weeks ago). What does this mean for traders? Market functioning is improving for the crude market. Yet, that does not negate the influence of larger fundamental concerns. The demand/supply balance was altered by a few prominent economic indicators released through the day. The second reading of the UK’s 1Q GDP report was in line for its headline figures; but the component figures suggested growth (and thereby energy demand) was better positioned than previously thought. Investment would unexpectedly grow 1.5 percent through the period while personal consumption was. In the US, the Conference Board’s consumer sentiment survey for May advanced to a near two year high as Americans responded to economic stability and a tentative improvement in labor conditions. These are still very early signs of economic strength (and certainly not what is needed to put pressure on supplies); but they are necessary first steps. Speaking of supplies, the API inventory report for the period ending May 21st would report a modest increase in holdings of 616,000 barrels. This is in line with tomorrow’s DoE forecasts.


Commodities - Metals

Best Back to Back Rally for Gold in Months as Sentiment and North Korea Tension Send Capital to Safe Haven

Spot Gold - $1,204.25 // $12.60 // 1.06%

For most speculative assets (regardless of their position on the risk spectrum), the intraday shift in sentiment would lead to a wide range and comparatively modest daily change. Not so for gold. Avoiding much of the volatility that drove more reactive assets on dramatic swings, the precious metal carved a steady advance that would lead it to a close near the day’s high through the end of the US session. The rebound in investor sentiment through the US session was wide spread; and the initial tumble in speculative interests through the morning was encouraged by a range of tangible concerns. So, then would this particular asset not conform? The unique performance from gold can be traced back to its appeal amongst international investors. More than just an easy safety play for the highly leveraged, this commodity is being treated as a long-term alternative to global currencies, government debt and hedge for the early threat of inflation. As such, investors are concerned about the steady deterioration in Euro-are markets by Germany’s proposal for broad naked short sales and the geopolitical uncertainties brought on by the growing hostilities between North Korea and much of the rest of the world. Alternatively, long-term convictions do not guarantee security with a buy-and-hold strategy for gold. The CBOE Gold Volatility Index suggests the metal could see a 25.7 percent move over the coming months, compared to the 34.6 percent reading on the S&P 500’s VIX volatility index and 15.1 percent outlook from the DailyFX currency volatility measure.

Spot Silver - $17.95 // $0.04 // 0.22%

As gold sees its daily momentum ebb, silver’s correlation will similarly wane. The cheaper precious metal cut a bearish recovery similar to that of the Dow through Tuesday’s session. At the same time, the intensity of the move was certainly ratcheted down from that of equities or oil. Perhaps the dollar’s temperate retracement helped keep the market under control or the stability of gold would dissuade rampant speculation. Nonetheless, both open interest and volume for the continuous contract declined through last week’s close (the exchange releases delayed activity data) as commodity approached a range low of $17.40/00.


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

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