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Modest Advance for Crude Doesn’t Deviate from Congestion, Risk Catalysts Ahead

Modest Advance for Crude Doesn’t Deviate from Congestion, Risk Catalysts Ahead

2010-07-19 23:42:00
John Kicklighter, Chief Currency Strategist
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North American Commodity Update

Commodities - Energy

Modest Advance for Crude Doesn’t Deviate from Congestion, Risk Catalysts Ahead

Crude Oil (LS NYMEX) - $76.54 // $0.53 // 0.70%

If a surprising cooling in one of the world’s largest economies and a collective shift in investor sentiment this past week couldn’t encourage a meaningful trend from crude; then there was little chance that a quiet docket like today’s could breathe life into the commodity. For a wrap up price action, today’s advance was officially the largest in a week; but the active futures contract nonetheless remains in a comfortable range between $78 and $75. Patterns of congestion like we seem to be forming now have grown to become common place; but that does not mean the risk of volatility and a strong bearing on direction have dissipated. In fact, the potential for more volatile price action is perhaps growing. In the days ahead, we will see whether the European markets are indeed heading towards an inevitable crisis, we will find a benchmark of 2Q growth for the world’s advanced economies with the UK release and risk appetite itself could be defined. That being said, given that much of this fundamental fodder resides at the end of the week; the subsequent wait could freeze traders in the interim.

For activity today, the two primary fundamental elements of price action (underlying investors sentiment and the supply/demand aspects of growth expectations) were both relatively quiet. That doesn’t mean, however, that there was nothing for oil traders to interpret. For economic activity, the Bundesbank issued a sterling report for the European Union’s largest member economy. According to Germany’s central bank, the economy likely expanded at an “extraordinarily strong pace” through the second quarter. That remains to be confirmed by the official statistics; but the assessment offers a strong benchmark for a region that is considered to be the potential catalyst for the next financial crisis. Aside from this particular indicator; the only other supply/consumption data that was roused the market’s attention Monday was data from the International Energy Agency (IEA) which said that China – which consumed the equivalent of 2,252 million tons of oil this past year – had surpassed the US as the world’s largest energy user. This is a title that adopts risks. If China’s efforts to slow its economy and markets spark a painful crash, the impact on overall oil demand will be remarkable. Looking ahead to tomorrow, the fundamental trends underlying energy prices will find a couple indicators with a little more influence. The US housing starts data will tell us whether this vital sector of the world’s largest economy is indeed heading towards a second slump. Also of interest is the UK’s CBI business optimism survey which is private report of activity akin to Germany’s IFO report.

For traders, the price action in futures was particularly volatile today. With the August Nymex futures contract set to expire tomorrow; we have seen an early roll out to the next deferred (the September contract). The 294,656 contract turnover today likely contributed to today’s price action. In other news, we refer to last Friday’s COT report from the CFCT which noted the biggest percentage increase in the speculative net long positioning in crude (67 percent) that we have seen in three years. From this, we can gather that there is a perceived range that the market as a whole expects the commodity to trade in; and just like retail traders, hedge fund managers and institutional traders will buy at the low of that range.

COM-10-07-19-01

Commodities - Metals

Despite a Round of News that Raises the Specter of European Crisis, Gold Tests a New Two-Month Low

Spot Gold - $1,182.95 // -$10.05 // -0.84%

It is surprising that equity markets did not respond to the collective deteriorating in the European Union’s perceived financial health today; but it is especially shocking that gold would not find a hearty bid on the news. While gold itself can hold avoid even dramatic shifts in risk appetite due to its specific safe haven qualities; the character of today’s fundamentals were especially well-suited to bolstering the need for an alternative to traditional asset classes. Representing a wave of uncertainty for a region that already threatens to spark the next global financial crisis, we were confronted with a round of headlines that suggests the recent bounce in confidence that accompanied the euro and EU market’s recoveries was speculatively derived. The top headline through the session was the rumor (from Bloomberg) that Germany’s Hypo Real Estate had failed the region’s banking stress tests. We won’t know whether this rumor is fact or fiction until the official announcement on Friday; but in recent history, such an update is worthy of at least a modest rise in panic. And, if this particular warning weren’t enough, traders should have further been knocked off kilter by news that Ireland’s sovereign debt rating had been cut by Ireland and Hungary’s 20 billion euro loan from the EU and IMF was in jeopardy. Any of one of these headlines could threaten to pitch the entire region into a speculative vortex; but combined they wouldn’t seem to budge risk appetite very far. It could be said that sentiment is a fickle reactor; but the uncertainty this spells for financial security, exchange rate volatility and sovereign ratings stability should have lead to at least a modest bid for gold.

There are possible explanations for why gold would not respond to this very specific threat; but the most reasonable basis for stability is the consideration that ongoing losses in other asset classes is raising the need for margin. Holding to losing position on the potential for a reversal; portfolio managers are prone to raise cash from idle investments. Representing little in the way of yield and currently richly valuated, gold is a good source of capital. That being said, should sentiment continue to deteriorate going forward, the precious metal’s roll as a unique alternative and safe haven will likely recover.

For futures traders, today’s second consecutive decline in gold prices, there was a second surge in the CBOE’s Gold Volatility Index. However, having peaked at 21.79, the gauge reverse notable to 20.31 – marking another unusual reversal from a risk sentiment position. As for turnover, both aggregate open interest and volume are still low compared to activity over the past few months. Today’s volume shows a drop from Friday’s 146,89 jump to 110,870 today.

Spot Silver - $17.59 // -$0.27 // -1.48%

With little guidance from risk appetite trends, silver would find encouragement from gold’s remarkable development for the day. Significant selling pressure for the safe haven asset would spill over to its cheaper proxy with relative ease. The lagging aggregate volume data suggests there is growing interest with the recent downturn in trading; but clearing $17 will be the critical test for real progress.

COM-10-07-19-02

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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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