Oil supply bottleneck in US is alleviating

Yesterday’s market action

The Fed minutes, released after the European close, showed sufficient concern over the recent weakness in US data to as good as rule out the June meeting as the moment to begin to raise rates. The problem the Fed have, and it is largely one of their own making, is that they are backed into a corner whereby US economic data continues to soften but they have to raise rates this year or risk rates remaining at these low levels by the time the next recession hits. 2016 is an election year so they will be loathe to make a move then, leaving a window between now and the end of the year to begin the hiking cycle. As a result, US treasuries have struggled to gain any traction in the face of the spate of data disappointments in recent weeks, and with, the in the Fed’s own words, the ‘transitory’ effects of the collapse in oil prices now wearing off and inflation expected to recover towards their 2% target, this should put further pressure on the Fed to act.

The DoE inventories released yesterday showed a drawdown of 2.6 million barrels of oil, providing further evidence that the supply bottleneck seen this year in the US is alleviating. Crude initially dropped on the news before retracing back into the range and remains on the front foot in early-morning trading, sitting just below the $60 level. This reflects how investor expectations have changed after the sharp counter-rally we’ve had; if this figures had been released in February we’d have seen a large move higher, but after the rally up to $63 the market has heightened expectations and anything other than a considerable drawdown will likely disappoint markets.

Today’s View

This morning brought a host of PMI data, firstly from China and Japan, with the HSBC Manufacturing PMI for China showing a reading of 49.1, the third straight month of contraction in the world’s 2nd largest economy. The Japanese PMI rose to 50.9 and enabled Asian bourses to close broadly in the green. The European PMIs were a real mixed bag, with the French and German PMIs coming in below expectations, indeed the French number marked the 13th consecutive month of contraction, whereas the Eurozone as a whole showed a decent gain of 52.3 M/M. This mix has been reflected in the choppy trading seen in the euro/usd this morning, with the euro broadly higher but with some nasty retracements along the way.

First up today we have the release of the ECB minutes, which are not anticipated to be market-moving but it will be interesting to note the debate over Greece and any discussion around the longevity of QE, particularly with the deflationary pressure in the Euro area showing signs of easing. Other data of note are the US Manufacturing PMI release, Initial Jobless Claims and the Existing Home Sales data. We remain short US equities, not trusting the rally seen above the previous highs, and therefore we are also short t notes, as the Fed minutes last night did nothing to change the perception that a rate hike is coming in the 2nd half of this year.