After all of the volatility this week the spot WTI is currently down about $1.60/bbl on the week while the Brent contract is lower by only about $0.50/bbl as of this writing. This has been a tumultuous week for oil and most risk asset markets. Oil spent the first part of the week in negative territory as the market interpreted US Fed Chairman Bernanke's testimony to Congress as another round of quantitative easing may be off the table. It resulted in a sudden drop in most all risk asset classes especially the precious metals but also oil. Then a bad US ISM number released yesterday suggesting that manufacturing is slowing was viewed by the market as bad news is good news in that it may mean that QE3 may be back on the table. It also shows how jumpy and disjointed the market is becoming. Normally a lower ISM number is a bearish signal for oil as well as the equity markets. Yesterday oil marched higher after the number was released followed by a steady up move in equities. Normal relationships seem to be breaking down as the bullish enthusiasm is overriding everything bearish.

On top of the illogical trading activity toward the end of the day a news report out of Iranian TV said that a Saudi Arabian pipeline exploded. In no time at all oil prices surged even though the story was not confirmed by any of the reputable media outlets like Reuters, Bloomberg or Dow Jones. The story was later denied by Saudi officials but it definitely shows how concerned the market is over the evolving geopolitics in the Mid-East. It also shows that everything Mid-East is front and center on the radar of all global oil traders.

Today there are Parliament elections in Iran and on Sunday Putin will likely be re-elected President for the third time. Both of these events could potentially result in large scale protest...more so in Russia than in Iran. That said either one of these events could impact oil prices early next week especially if any instability emerges out of Iran. In addition the saber rattling is continuing from the US as the Obama Administration is escalating its warnings (possibly at the request of Netanyahu...discussed in yesterday's newsletter) that the US may join the Israelis in an attack on Iran's nuclear facilities if Iran does not clear up all of the concern that its programs appear to be geared toward the development of nuclear weapons. So we are clearly in Scenario 2 as the military rhetoric ramps up ahead of next week's meeting between Netanyahu and Obama in Washington DC.

Oil prices may be off a tad so far this week but I do want to emphasize I still see the current action playing out in the oil complex as still a mild round of profit taking selling that has limited downside as long as the war of words continues to ramp up like we have seen in the last several days. Market participants are extremely nervous and will pull the trigger on buying the market very quickly...even on rumors as we saw yesterday with the Saudi oil pipeline explosion report from Iran of all places. The geopolitical Put remains solidly embedded in the market.

After yesterday's reaction to the significantly below consensus ISM number it seems the Bernanke Liquidity or QE Put is also back on the table...at least in the view of the market. In addition inflation risk is still slowly creeping up. Today we saw the PPI number in the Euro Zone come in higher than the consensus and above the previous month suggesting that inflation risk is growing in Europe. In addition retail sales in Germany...the main European economic growth engine slid more than expected and more than last month. So what we see in many places around the world is more liquidity, higher oil and commodity prices translating to more inflation risk and eventually a further slowing of the global economy.

My view on how this is all playing out suggests that most risk asset markets are overbought and way ahead of the what the data is starting to suggest about the health of the global economy. If inflation risk is rising ...as it appears in many places around the world...growth will be slowing as we are starting to see by data points like yesterday's ISM data out of the US and if that is the real status of the economies than current equity values are overbought. If this is the scenario that evolves over the next month or so the likelihood of even more liquidity coming from Central Banks in both the developed and emerging market world will increase and further foster the inflation risk and likely slow economic growth further. Back to my earlier comment the market correlations are continuing to break down and are a bit disjointed as we have seen the way trading has evolved this week.

Global equities are back in the positive column for the week as shown in the EMI Global Equity Index table below. The Index is now higher by 1% for the week after yesterday's strong performance in most of the bourses in the Index. The Index has now recovered all of last year's losses except for just 1% and in two months time...a very impressive rally. How long it lasts is becoming one of the main question circulating in the market on a daily basis. By all measurements the rally is overbought and remain susceptible for a modest round of profit taking selling. As we have seen so far this year markets can remain overbought for an extended period of time as the equity and oil markets have. It also shows that market participants are still not yet worried that high and still rising oil prices are inflationary and will be a strong headwind for corporate earnings and eventually equity values. WTI is still trading above its most recent support level of $104/bbl with $110/bbl the next level of resistance. Brent is also still above its support level of $120/bbl. Oil continues to be driven by the evolving geopolitics of the Mideast...in particular Iran with just about all of the other normal prices drivers taking a secondary role...including fundamentals. I am keeping my view at cautiously bullish and keeping the caution flag flying to remind all that the market is still susceptible to further profit taking selling in the short term. I am still keeping my view at neutral and bias at bearish as once again there is not much supportive indications that Nat Gas is likely to embark on a major short covering rally anytime soon. The surplus is still building in inventory versus both last year and the five year average is going to get harder and harder to work off even it gets cold over a major portion of the US and as such for the medium to longer term I am still very skeptical as to whether NG will be able to muster a sustained upside rally over and above a short covering rally.

Another bearish inventory report hit the market today (see below for a more detailed discussion) resulting in the futures market giving back all of yesterday's short covering rally gains and a lot more. With 19 days left to what may go down as one of the warmest US winters in history the surplus of Nat Gas in inventory is continuing to grow. With the latest NOAA temperature forecasts projecting above normal temperatures for the rest of the winter heating season over the eastern half of the US and likely more warm weather beyond that I see nothing out there that is likely to result in anything other than Nat Gas prices continuing to drift lower. I am now expecting a test of the trading range low (that has been in place for all of 2012 so far) support of $2.25/mmbtu to be tested in the next week or so.

All signs still suggest that the current winter heating season is going to end with an all time record high inventory level at the end of the season. My model is currently projecting an end of season inventory level of 2.34 TCF or a tad below (total threshold is around 2.4 TCF) the level several market analyst believe that some level of ratcheting will occur. Some, but not all, storage contracts contain contractual provisions that change the rights to inject or withdraw gas depending on the inventory in the storage account. Ratchets are applied at a customer level based on the time of the year as well as the individual customer storage balance for a particular service. Each storage service has its own set of ratchets. These storage ratchets, which storage providers use to protect their fields, contractually require storage users to draw down their gas to a certain percentage of contracted volume by the end of the withdrawal season. Some analysts believe that ratchets could force some undetermined volume of un-needed Nat Gas into the marketplace in March & April. If this does occur it could act a price pressure point and accelerate the testing the lower end of the trading range and increase the possibility of Nat Gas trading with a $1 handle sometime during the shoulder season.

Currently markets are mostly lower as shown in the following table.

Best regards, Dominick A. Chirichella dchirichella@mailaec.com Follow my intraday comments on Twitter @dacenergy.