The sell-off in oil and most major commodities continues as we enter a new week of trading. From a technical perspective WTI broke through last week's key support area of about $95.35/bbl very decisively overnight and is now trading close to the $94/bbl level. The next key level of support is around the $92/bbl level. The spot Bent contract also breached last week's key support level and is now approaching its next support level of $108.80 ...a level that if breached will eliminate all of the Brent gains for this year. The Iranian oil purchase embargo premium has been out of the WTI market for more than a week. The spot or June Brent contract is expiring on Wednesday is now less than a $1/bbl away from completely eliminating the Iranian embargo premium. Simply said the Iranian risk premium is just about completely out of the oil market as this issue has faded into the background over the last few weeks. The next event for Iran and the West will be the May 23rd meeting. If progress continues to be made the likelihood of military action will continue to diminish as well as the risk of a supply interruption.
With geopolitics taking a back seat oil and commodity markets have been driven by more normal supply & demand issues as well as technical price drivers. The supply and demand balances for the oil complex have continued to suggest that there is ample supply of oil with demand growing only very slowly as the global economy is also struggling to gain ground. On top of the economic growth concerns the possibility of a complete exit of Greece from the EU and a changing in the approach to solve the frail EU economy coming from France is creating a high level of uncertainty and thus another bearish price driver for oil, commodities and the global equity markets. After several tries last week and over the weekend the Greek politicians have still be unable to form a coalition government. One more attempt will be made today but for now all signs are suggesting the Greek populace will have another election in early June to try to resolve this huge issue. The issue is not simply one of internal disagreement by the various parties but it also is becoming an issue of no more austerity. If it continues to move in this direction the probability of Greece heading out of the euro zone is increasing.
For now the global markets have been and remain in a clear risk off trade with just about all risk assets once again highly correlated. There are not many places to hide from the downdraft with funds flowing into the US dollar and the Yen as even gold and the rest of the precious metal complex is also under selling pressure. It clearly looks like another sell in May and go away pattern is in play. How long it lasts will be driven by the upcoming macroeconomic data and how the central banks around the world react to the data.
Over the weekend the Chinese government reduced the bank reserve requirement rate by 50 basis points to try to move that slowing economy along. Last week I suggested China would start to get more aggressive with their easing policy and this is the first step. With a decent amount of liquidity already in the China banking system and with Yuan loans coming in below plan last month the reduction in the triple R rate may not be enough to give China's economy a growth spurt. The Chinese equity markets were lower overnight even after the triple R cut. With inflation below the government threshold for the last three months China may be getting ready to stat to lower short term interest rates...which I believe will occur next. The global economy is running mostly on some form of easy monetary policies and stimulus and has not yet demonstrated it can run on its own and grow at a normal rate. Bottom line that is bearish for commodities, oil and equities.
Over the last week the oil complex was lower with the complex losing between 1 to 2.5% for the week. The June WTI contract decreased about 2.4% or $2.36/bbl. The June Brent contract ended the week with a decrease of 0.81% or $0.92/bbl. The June Brent/WTI recovered another $1.44/bbl of its losses from several weeks ago. The combination of the market looking toward the start of the Seaway pipeline on Thursday May 17th (expected to move about 150,000 bpd of oil out of PADD 2 to the US Gulf) and the easing of the tensions in the Middle East may be enough to start to send the spread bulls to the sidelines. Barring any change in the current geopolitics of the Middle East I still expect the spread to gradually continue to narrow over the next 3 to 6 months as the surplus in the US mid-west continues to recede.
On the distillate fuel front the Nymex HO contract decreased by about 1.5% or $0..0452/gal on the week even as distillate fuel inventories decreased much more than expected last week and as US distillate fuel exports were steady on the week. Gasoline prices actually increased on the week after another larger than expected decline in gasoline stocks. The spot Nymex gasoline price increased by 0.84% or $0.0250/gal this past week.
Nat Gas futures decreased on the week while remaining above the psychological $2/mmbtu level. The June Nat Gas futures contract gained 10.09% or $0.23/mmbtu on the week and is now trading with around the key resistance area of $2.50/mmbtu.
Nat Gas futures made yet another pass at trying to solidly breach the key $2.50/mmbtu resistance area overnight and so far it is holding. However, I am not sure I see enough buying momentum or fundamental support to keep the futures market above the $2.50/mmbtu level and sustain another leg up at this point in time. The market has made a good recovery move over the last three weeks. Since bottoming on April 20th the spot Nymex contract (as of Friday) has gone from a low of $1.902/mmbtu to today's current level of $2.48/mmbtu or a gain of $0.578/mmbtu or 30%. That is a very strong recovery move especially since the market has been in a multiyear downtrend. It also has a long way to go to bring a decent level of confidence that this is truly a new uptrend and not simply a short covering rally in a longer term downtrend.
The last time the spot futures contract was trading at the current level was back in the middle of February or the heart of the winter heating season. However, to put the current rally in perspective and how much further it has go to demonstrate a major change in the trend one year ago on May 11 the spot futures contract closed at $4.181/mmbtu or $1.701 above the current price level. So yes progress has been made but by all technical measurements the current rally will have to not only close above the $2.50 level it will have to overtake the next and more important resistance level of $2.60/mmbtu to start using the comment that the downtrend may in fact be over.
No matter how I look at the numbers the market is still oversupplied. Throughout the current shoulder season demand has overtaken supply only on a year over year comparison. What I mean by that is supply is still higher than demand and thus Nat Gas has been injected into inventory for the last eight weeks. However, the overhang of supply over demand this year is less than last year's overhang at this time of the year and for the last eight weeks or so resulting in an underperformance of inventory injections.
As the industry heads out of the shoulder season and into the seasonally higher demand summer cooling season the big question that all market participants will be looking at very closely is how hot will the summer be this year and more importantly compared to last year as last year was a very hot summer. If summer cooling demand lags last summer the net result will be a turnaround in the weekly injections to an over performance pattern versus last year and thus a widening of the already large surplus of Nat Gas sitting in inventory.
On the financial front equity markets around the world ended were lower as the downside correction seemed to rear its head again last week in most locations around the world. The financial markets were mostly impacted by a series of macroeconomic data in several locations around the world that are still suggestive that the global economy is in a slow growth pattern while the ongoing sovereign debt issues in Europe have once again resurfaced but this time all eyes are on Greece. Global equity values decreased as shown in the EMI Global Equity Index table below to the lowest level since the middle of January.
The EMI Index decreased by 2.8% on the week. Over the last week the Index decreased in value in most bourses with two bourses now in negative territory for the year with the overall Index now at the lowest level since the middle of January of 2012. The euro lost ground on the week while the US dollar increased strongly. Last week the global equity markets were a bearish price driver for oil and most commodity markets. Last week was a risk off trading week for most risk asset markets.
I am keeping my view to cautiously bearish after oil broke down on all fronts last week with a continuation to the downside to open trading for the week. Oil is now solidly below the trading range it has been in for the last month or so and well below several key support areas. WTI is now solidly trading in double digits with Brent currently holding up a tad better.
I am keeping my view at neutral and keeping my bias also at neutral with an eye toward the upside. The surplus is still building in inventory versus both last year and the five year average and could lead to a premature filling of storage during the current injection season. However, I now believe that we may see other producers starting to signal a cut in production. We may still see lower prices (thus the basis for my bias) but I think the sellers are losing momentum.
Currently markets are lower as shown in the following table.
Dominick A. Chirichella
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