The relief rally following the recent EU summit only lasted the usual 48 hours before the realisation that once again we had been presented with a plan but that the reality of enforcing it would face numerous obstacles. A surprise rate cut in China also failed to convince investors that it would be enough to boost the economy of the world’s largest consumer of commodities. As a result the Euro sold off once again, not least helped by the European Central Bank which lowered its official rate to 0.75 percent, and the yield on German two-year government notes falling to less than zero.
Commodities, especially oil, got caught up in the initial euphoria and have not looked back since then as supply side worries, at least for now, moved the focus away from global growth concerns and slowing demand. US grain markets continued to rally as the heat wave combined with lack of rain has increasingly put this year’s harvest at risk, especially corn which is up 40 percent in just three weeks. Gold and silver struggled to keep up as the stronger dollar once again created some headwind.
The broad-based DJ-UBS commodity index has now rallied by 10 percent in just two weeks which is one of the strongest performances for many years and as the table below shows, the recovery following the June sell-off has happened primarily across agriculture and energy with the two sectors both rises by 8 percent over the last week.
One week performance
Oil market focus on Iran and Norway The beginning of July saw traders return their focus to Iran as the sanctions there kicked in and Brent crude reached triple digits once again. News that Iran was testing long range missiles and suggestions that it would be prepared to disrupt oil tankers passing through the important Strait of Hormuz caused some nervous market reactions before realisation that such a move was not supported among the real decision makers. The loss of Iranian oil carries the risk of tightening oil markets again over the coming months despite Saudi Arabia’s best effort to keep supplies flowing in record amounts. Staying on the subject of supply Libya has seen its output drop by 300k barrels per day primarily due to political protests ahead of national elections.
For a change the attention also turned towards a much calmer and peaceful part of the world – Norway – as the week-long labour dispute escalated with Statoil the Norwegian oil and gas giant threatening to lock out workers and shut down production. If carried out it this could impact up to 2 million barrels of oil equivalent per day out of Norway’s daily production of 3.8 million. With the country being Western Europe’s largest oil exporter and one of the world’s largest exporters of gas the impact of a prolonged lockout could have a serious effect on supplies and on Norway’s reputation. It is therefore widely believed that the government, as seen before in other labour disputes, will step in and help dictate a solution.
Much of the rally was driven by buyers covering sold positions as the technical picture, up until the move back above 100 dollars, had pointed down towards 72 dollars. This technical outlook had attracted the largest amount of short selling of Brent crude seen since this data first became available in early 2011. Having so forcefully rejected the recent low at USD 88.50 Brent crude is now likely to settle into a wide range between resistance at USD 103.75 and support at USD 95. The main focus in the week ahead is most likely to remain on worries about diminishing supplies from the two countries mentioned above but as long as economic data continues to point towards a slowdown additional upside from current levels seems to be limited and sellers may hold the upper hand as they may try to test the strength of support following the strong rally.
Gold investments through ETPs at new record
Investors looking for a bullish move in gold have used exchange traded products to increase their exposure to a new record. This week, holdings in gold exchange traded products (ETPs) rose to a new record of 77.6 million ounces, thereby breaking the recent high of 77.4 set back on March 16. This continued "love" affair with gold through non-leveraged products such as exchange traded products has continued to increase despite the sideways and at times lacklustre performance of gold during the last few months. There are many different providers of gold ETPs but currently the four biggest which are SPDR, ETF Securities, ZKB and iShares hold approximately 83 percent of the 77.6 million ounces invested.
Speculative traders such as hedge funds have not been as convinced as the loss of momentum has seen them scale back positions since August 2011 from 25.6 million ounces to just 11.6 million ounces currently. The chart below shows how differently the two different investment types have fared in recent years.
Gold continues to trade either side of 1,600 dollars while silver recovered from critical support at 26 dollars. Deteriorating economic data and official interest rate cuts in China and Europe helped gold along but once again these events led to a renewed rally of the dollar. The headwinds this caused were enough to see both metals retrace, not least following the weaker than expected employment report from the US which sent the dollar higher still. Until the dollar stabilises or we see additional speculation about US quantitative easing gold will struggle to break higher from its current range despite all the good efforts being made by ETP investors.
US crop rally feeds through to Europe
The rally in key US crops continues with little or no rain on the immediate horizon and every day without rainfall raises the risk of a sharp reduction in this year’s output. Corn traded in Chicago has seen a dramatic three-week rally triggered by the worst US Midwest drought in almost a quarter of a century. This has resulted in corn crops rated from good to excellent plummeting from 77 percent to just 48 in less than two months. The move has also been driven by speculative traders as the strong momentum has continued to attract buyers but with the technical picture now pointing towards a significant overbought situation some profit taking can be expected short term. A major correction however cannot be expected as long as corn fields continue to swelter without rain during this very important time of pollination.
Wheat prices in Europe have also been affected by the expected drop in US production of corn as it could see increased demand as a feed substitution. Paris Milling wheat has rallied by more than 20 percent in recent weeks on a combination of the deteriorating outlook for US crops but also due to expectations for a weaker Russian and Ukrainian export season. The International Grains Council has reduced its forecast for Russian wheat production for the year ending in June 2013 by 6 million tonnes to 49 million tonnes and the Ukraine’s by one million tonnes to 13 million tonnes.
