Commodities Erase Gains as USD Rallies, Greece has Difficulty in Raising Money and Asia Begins Tightening

The European Union's split over Greece was in focus last week. Germany's stance on helping the country overcome its budget deficits has been tough but it seemed to have turned tougher recently. Greek Prime Minister has been busy bargaining for lower borrowing costs, while German Chancellor Angela Merkel suggested Greece to seek assistance from the IMF. The euro was under tremendous pressure last week.

The theme will remain important next week as the EU summit will unveil more details about European leaders' stance on the issue.

Tightening in Asian economy is looming. While China has raised required reserve ratios twice in the first 2 months in 2010, India unexpectedly raised interest rates last week. As emerging markets, especially China and India, are expected as the strongest growth driver of economy, these cooling measures inevitably affect market sentiment.

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Crude Oil

Crude oil dived last Friday as the dollar rallied amid concerns over Greece's financial situation. The benchmark contract for WTI crude oil plunged -1.8% to close at 80.68 Friday. On weekly basis, oil price also dropped -0.7%.

Although oil has been trading above 80 for most of the time in March, fundamental developments failed to push price higher.

Data by the US Energy Department showed a mixed demand/supply picture. The EIA reported that crude inventory rose +1.01 mmb to 334 mmb in the week ended March 12. Although this indicates the 7th consecutive weekly increase, the pace moderated from mid-February to early March. Stockpile at Cushing, where WTI crude is stored, dropped -0.68 mmb.

While utilization rate remained at 81%, both gasoline and distillate stockpiles drew more than expected although due to different reasons. Gasoline stockpile dipped -1.71 mmb as decline in imports (-24%), was bigger than increase in production (+2.3%) and slide in demand (-1.59%). Although demand dropped, the number of days covered fell to 25 days, or +5% above 5-year average.

Distillate inventory extended the decline for a 9th week, by -149 mmb, to 148.1 mmb as led by +3.2% increase in consumption which was partly offset by higher imports (+25%) and production (+3.7%).

While oil product stockpiles decline more than expected, consumption remained dismal and stayed above historical levels.

Another big event happened last week was OPEC's meeting in Vienna. The organization controlling 40% of the world's oil decided to keep production limit unchanged at 24.845M bpd. While this decision had been widely expected, oil ministers' comments that they were happy with price and demand sent the market a positive signal. A few months ago, it was assumed that the internal price range and members seemed to be content with it. It appears that the new range has been shifted up to 80-90. This had given oil price a boost.

Algerian oil minister said after the meeting that demand will increase in the third and fourth quarter of the year. Moreover, as global economy continues to improve and Iranian nuclear tensions escalate, oil price should remain firm.
The compliance issue was downplayed although many members produced in excess of their assigned quotas over the past few months. If the OPEC does not worry much about compliance, it may imply that it's confident that growth in demand is capable of absorbing the extra outputs.

Reserve Bank of India unexpected raised the benchmark reverse purchase rate and the repurchase rate, by +25 bps, to 3.5% and 5% respectively. The action indicated more tightening will follow as the country seeks to contained inflation. The news, together with speculations on rate hikes and currency appreciation in China, signaled Asian economies are beginning to unwind the stimulus policies implemented during global recession. Market reactions were negative as tightening would slow down economic growth.

Natural Gas

Natural gas got a technical rebound above 4 dollar last Friday. However, it is not going to change the poor outlook on price. On weekly basis, the contract plunged -5.3%. According to the US Energy Department, gas inventory drew -11 bcf (consensus: -40 bcf) in the week ended March 12. Current level, at 1615 bcf, is +4.7% higher than 5-year average.

Significant reduction in total U.S. demand was seen last week as winter is leaving. Total demand for the week ended March 17 fell -8.6% compared with last week with consumption in the residential and commercial sectors slipping -12%. Demand in the electric power and industrial sectors also dipped -8.6% and -2.3%, respectively.

The number of gas rigs increased +12 units to 939 units in the week ended March 19. While it remains below 2008-high at 1606 (September 2008), rig counts have improved around +40% from the lowest level in mid-2009. This will likely lead to increase in gas supply on annual basis.

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Precious Metals

Gold price tumbled in tandem with the broadbased decline in commodity prices. The benchmark contract fell to as low 1101 before recovering to 1107.6, losing -1.8% on the day but gaining +0.54% on the week. The yellow metal traded relatively firm over the week as the Fed announced to keep the policy rate unchanged at 0-0.25% for an extended period. The accompanying statement was almost the same from previous ones. At the same time, the Bank of Japan doubled the size of the fixed rate operations while keeping interest rates near zero. Low-rate monetary policies from advanced economies have helped keep yields low, thus reducing opportunity costs for owning gold.

However, strength in USD and downside surprise in US inflation data capped gold's rise. These factors will likely limit gold's upside in coming months.

The dollar index gained +1.1% last week. USD surged +1.72% against EUR due to the Greek issue. The euro should continue to be undermined until the Greek government finds the way out to solve its huge deficits.
Both US' CPI and PPI missed market expectations in February. Headline CPI was flat from January, while core CPI edged only +0.1% higher. PPI contracted, by +0.6%, more than consensus of a -0.2% drop. Subdued inflation outlook in advanced economies undermines gold's appeal as an inflation-hedge.

Palladium was the best performer last week, gaining +1.16%. Investors have turned optimistic on PGMs. Supply tightness, demand recovery and strong capital flows to ETFs are the reason for the strength. Eskom, the state-owned power and utility company in South Africa, said that power supply could become a major concern from 2011. Power shortage issue will be worsened by the World Cup which begins in June. South Africa is responsible for around 80% of platinum production and 35% of palladium production in the world. Supply constraints should exacerbate the PGM market which is expected to tighten as demand from automakers rebounds.