Over the weekend another sign emerged that supports the view that the Chinese economy is continuing to ease as the latest HSBC/Markit Economics PMI data came in at 49.8 for September versus a forecast for a tad over 50. This is the 11th month of contraction in this energy sensitive index. So far the Chinese government has not shown any signs that it is ready for an aggressive round of monetary accommodation... like more stimulus programs. Although the economy is slowing it is still growing at a rate of about 7 to 7.5% or around the threshold objective level of the Chinese government. The slowing of the Chinese economy is certainly viewed as a bearish price driver for the oil complex as the Chinese economy is the main oil demand growth engine of the world.

Market participants will have plenty to review this week insofar as the state of the global economy as there are many macroeconomic data points to be released. We have already seen the PMI out of China followed by manufacturing and unemployment data out of Europe this morning. So far the data that has been released out of Europe shows another slight contraction in the manufacturing sector with the unemployment rate for the EU holding steady at 11.4%. The EU economy is continuing to show signs of slowing further. Later this morning the US manufacturing date will be released at 10 AM est.. On Wednesday the jobs data reports begin to the hit the media airwaves in the US with the ADP private sector job survey which is projected to show a gain of about 150,000 jobs. On Thursday the weekly initial jobless claims hit. Followed by the main event for the US ... nonfarm payroll data and the unemployment rate. The early consensus is calling for 125,000 new job with the unemployment rate expected to rise to 8.2%.

The employment data is quickly becoming a major data point for the US from the perspective of the upcoming US Presidential election as well as how the US Central Bank will manage monetary policy going forward. Certainly as long as the jobs picture remain bleak it is a negative for the sitting President. On the Fed side Bernanke indicated that one of the drivers for the open-ended QE3 was to try to jump start the faltering jobs market. A lower than expected data point simply suggests that the Fed will continue printing more money going forward. A better than expected jobs number could indicate that the life of QE3 might be shorter than originally expected. That said a better than expected data point which would impact the Fed to slow down on QE3 will have be new jobs creation in the order of 200,000 to 250,000 per month for several months at a minimum.

So far this has been an interesting investing/trading year with most risk asset markets gaining ground during the first nine month of the year with currencies and WTI the only instruments in the EMI Investment Leader Board (shown below) that are still in negative territory for 2012 to date. The main gainers for the first three quarters of the year have been the agricultural commodities which have been mainly driven by the impact of the drought on the 2012 crop in the US. After the Ag market the RBOB gasoline contract holds the next highest spot on the Leader Board.

With the first nine months of the year now in the history books the clear winner in the commodities category are the grains and in particular Wheat which are all surging as a result of the drought in the mid-section of the US or the heart of the agricultural area of the US. WTI was the biggest loser on the board with the Nymex RBOB gasoline contract showing the largest gain for the first nine months of 2012 in the oil complex. Nat Gas has made a strong recovery since bottoming around the beginning of the second quarter and is now showing an 11% gain for the year at the end of the thirds quarter. Metals were stronger across the board with Silver the leader in this commodity sector while equities were higher in most places around the world but with uneven gains depending on location and the sector of the economy.

The oil complex ended the week higher...with the exception of WTI... as market participants digested the newly announced stimulus programs by the US Fed, Japan, etc. WTI was the only losing commodity in the complex even after a surprise draw in crude oil stocks this week. WTI decreased by 0.75% or $0.70/bbl as Brent held up slightly better increasing by 0.87% of $0.97/bbl. Crude oil stocks in PADD 2 were modestly higher while Cushing was about unchanged on the week. The Nov Brent/WTI spread widened modestly in the week by $1.67/bbl as the normalization process is only slowly proceeding. In fact the spread is currently trading at the highest level in months.

On the distillate fuel front the Nymex Nov HO contract increased by 1.33% or $0.0415/gal on the week as distillate fuel inventories decreased modestly on the week. Gasoline prices increased strongly on the week. The Nov Nymex gasoline price increased by 3.57% or $0.1006/gal this past week.

Nat Gas futures were strong throughout the week adding value even after the transition from the Oct to Nov futures contract. The November Nat Gas futures contract increased by 8.11% or $0.249/mmbtu on the week and is solidly trading above the key psychological level of $3.00/mmbtu as the market seems to be starting to focus on the upcoming winter heating season.

In spite of the latest injection report coming in above the consensus market expectations Nat Gas futures were still able to hold onto gains and end the week in positive territory. Nat Gas has been in a technically driven uptrend since forming a short term bottom around the end of August. Along the way the gains have also been supported by more and more short covering as the weak shorts head to the sidelines as traders and investors begin to position themselves for the upcoming winter heating season.
The current fundamentals are not supportive of the current price levels. Starting with coal to Nat Gas switching the economics have been favorable to coal since September 11 based on the macroeconomic comparison of the spot Nymex Nat Gas futures price to the spot Nymex Appalachian coal value. Utilities may be starting to shift some of their power generation back to coal especially since the winter heating season is coming up shortly which could result in an even large advantage for coal if Nat gas prices move even higher if the winter weather turns out to be colder than normal.

The tropics remain quiet with nothing currently forecast that would be a threat to oil and Nat Gas operations in the US. There is still time left to the hurricane season but for now this area is a neutral for Nat Gas prices. On the temperature front the latest NOAA six to ten day and eight to fourteen day temperature projections are not likely to result in any significant cooling or heating related Nat Gas demand for the next several weeks. In addition the 90 day forecast is also projecting warmer than normal temperatures through the end of the year in the eastern two thirds of the US or the main Nat Gas heating related markets.

At the moment Nat Gas prices are being driven by a perception view that demand may begin to pick up and once again (as in the summer months) strongly outpace the robust supply situation in the US. That said I certainly do not have that view but as long as the market remains in an uptrend it is very difficult to head in the other direction. I am still of the view that the market is overvalued at current price levels and very susceptible to a modest to even strong round of profit taking selling. Once the market turns there will be ample time to enter into a short position. For now I remain on the sidelines.

On the financial front equity markets around the world were mostly lower for the week as market participants digested the new solution presented by the ECB and QE3 by the US both of which are viewed as actions that will bolster the global economy.

The decrease in equities were mostly a result of a light round of profit taking selling that has extended through the week. Global equity values decreased as shown in the EMI Global Equity Index table below but are still solidly in positive territory for the year.
The EMI Index decreased by 2.3% on the week with the Index now showing a year to date gain of 6.7%. Over the last week the Index decreased in value in most all of bourses with just one bourse remaining in negative territory for the year... China. Over the last several months the global equity markets have been struggling to stay in positive territory but the perception of what the new rounds of global easing might do to the global economy has moved market participants back into a risk on trading sentiment.

The euro was lower on the week while the US dollar was higher. Last week the global equity markets were a neutral to bearish price driver for oil and most commodity markets for most of the week's trading sessions.

Oil has become more reasonably valued after about a 10% downside correction (basis WTI). WTI is still currently in a $90 to $100/bbl trading range while Brent is in a $110 to $120 trading range. Both crude oils have bounced off of the lower end of the trading range as support has emerged from the refined products markets as well as from what seems to be a shifting sentiment in Europe. The headwinds are once again starting to slowly lose out to the tailwinds which for the moment now also include the current fundamentals related to the refined products sector.

I am keeping my view at neutral with a bias to the upside as the industry is back to normal operations after Isaac but the market is trading based on a perception of what the upcoming winter may do to Nat Gas related demand. At current prices the economics now favor coal over Nat Gas and there are no major weather pulls on demand.

Markets are mixed ahead of the US trading session as shown in the following table.

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


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