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A Month of Steady Declines Leads to a Momentous Bullish Reversal for Crude

A Month of Steady Declines Leads to a Momentous Bullish Reversal for Crude

2010-05-27 21:02:00
John Kicklighter, Chief Currency Strategist

Commodities - Energy

A Month of Steady Declines Leads to a Momentous Bullish Reversal for Crude

Crude Oil (LS NYMEX) - $74.53 // $3.02 // 4.22%

Yesterday, optimism over growth potential - and the benefits that would confer on energy demand – helped push oil up to its highest level in over a week. Today, the fundamental support would defer to speculative interests; but the ultimate result would be one of the strongest follow-up rallies in months. Having offset Wednesday’s slip in risk appetite, there was clearly a bullish bias developing behind crude. With the leverage that a positive swing in sentiment would add to the mix, both bids and price would swell. Helping feed risk appetite this morning were remarks from the Chinese State Administration of Foreign Exchange; which dispelled rumors that the sovereign wealth fund was reconsidering investment in European assets. If China (with the largest FX reserves in the world) were considering a withdrawal from the Euro-area, it would not only mean a significant outflow of capital; but such a move would further speculation that the region’s troubles had further devolved into a crisis. With the S&P 500 rallying 3.3 percent, Treasuries dropping the most in two months and junk bond spreads slipping for the first time in 16 days; this overabundance of risk appetite would easily spill over to this commodity that has not even seen as much as a notable bullish correction in a month.

Moving beyond the all-consuming influence of risk appetite, the fundamental backing for this rally was otherwise lacking. The most influential piece of data to hit the wires this morning was the second reading of US first quarter GDP. With the annual reading expected to tick up; the headline report would actually slip to a 3.0 percent pace of growth. However, the details are where forecasts for future performance are developed. Personal consumption – which accounts for three-quarters of economic activity for the economy – received a smaller negative revision; but more importantly, the 3.5 percent reading was still the best showing for consumption since the first quarter of 2007. This points to a more stable and assured recovery that can build the demand side of the energy equation over time. Projecting crude’s pace for tomorrow, risk appetite will be critical to the immediate follow up performance. However, there will be a round of economic data to hamper or accelerate the pace speculation sets. A broad range of Japanese employment, consumer spending, retail sales and inflation will cover the health of one of the world’s largest importers of petroleum products.

Crude Futures Chart (Daily)

Commodities - Metals

Gold’s Climb Stalls as Market Moves from Credit Concern to Yield Demand

Spot Gold - $1,211.80 // $0.00 // 0.00%

Risk appetite soared throughout Thursday’s; and yet gold would close the session unchanged. Recently, the precious metal has taken advantage of its safe haven appeal to forge a three-day advance. Therefore, it stands to reason that we should expect to see the commodity drop with the reversal in the appetite for risk. However, gold is not your standard safe haven. This particular asset has been used as an alternative to government debt and currencies – and to some extent volatility in these assets. However, this morning’s news that China was not planning to unwind its positions in the Euro Zone under fear that the regional economy was sliding into a financial crisis should have specifically bolstered confidence in sovereign debt. Indeed, Treasury yields would rally for those national securities still considered safe havens (US, German and Japanese paper); but an expected rebound in interest for depressed European debt would not materialize. Considering a withdrawal of Chinese capital was not a particularly prominent driver in the initial decline, nor does its avoidance further a recovery; the impact this has on sovereign debt risks is not yet fully established. A further recovery in risk appetite that buoys the speculative markets would likely set a foundation for larger investors to once again pour capital into government debt. Looking at market activity behind the active COMEX gold futures contract, delayed volume shows volume hit a four-month high of 329,000 contracts Tuesday. At the same time, open interest was fast approaching a record at 591,000 contracts.

Spot Silver - $18.45 // $0.38 // 2.10%

Without a conflicting signal between risk appetite and its correlation to gold, silver was allowed to appreciate with little fundamental interference Thursday. In fact, the commodity posted its fourth consecutive advance, which would also happen to be the largest climb for the asset since May 11th. For drive, silver traders would look to the US stock market’s three percent rally and the dollar’s first decline in four days as guidance for direction and pace.

 Spot Gold Chart (240 Minute)

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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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