The week started calmly until Germany's Bafin announced Tuesday to temporarily (until March 31, 2011) ban naked short sales of debt securities of Eurozone countries admitted on a domestic exchange to trading on the regulated market. It also temporarily prohibited CDS in which the reference liability is at least also a liability of a euro zone country and is not used to hedge default risks (naked CDS). In addition, Bafin banned short sales on 10 largest German financial institutions (including banks and insurance companies.

The aim of the bans was to reduce the 'extraordinary volatility of debt securities of countries from the Eurozone' as 'excessive price movements' could result in 'serious disadvantages for the financial market and could jeopardize the stability of the financial system as a whole'.

While some interpreted the new rule as part of German Chancellor Angela Merkel's political agenda, the financial market could not escape from turbulent move as sentiment, which has been badly hurt by sovereign-debt crisis in the Eurozone, deteriorated further.

Immediate market reactions were euro's slued to a 4-year low against the dollar, surges in CDS in peripheral European bonds and widening in yield spreads between German bund and peripheral European bonds. Stock and commodity market also got hammered. Although prices stabilized later in the week, most assets recorded severe losses.

While we believe many commodities have fallen below their 'fair values', risk aversion suggests further weakness cannot be ruled out.

Crude Oil

Wall Street rebounded on Friday after recording the steepest decline in more than a year on the prior day. Bargain-hunting was seen as some investors thought the selloffs have overextended. Rebound in stock market helped commodity prices (especially petroleum and base metals) as their positive correlations have been rising in recent years. WTI crude oil for July delivery rebounded to 71.23 after plunging to as low as 69. On Thursday, WTI crude tumbled to a 10-month low at 64.24. On weekly basis, the benchmark contract closed at 70.05, down -7.15%. Note that the June contract expired Thursday.

Positive correlation between crude oil and stock markets has developed since September 2008. This was due to the role stock performance as a proxy for world economic growth. May's correlation between crude and S&P 500 index has reached 78%, compared with 63% and 47% in April and March respectively. Heightened worries about deficit problems and potential global economic slowdown as debt-ridden countries accelerate fiscal consolidation measures triggered risk aversion which has weighed on stock markets. This has also resulted on huge decline in oil prices.

The US Energy Department reported less-than-expected increase in crude stockpile and decline in both gasoline and distillate stockpiles. However, the report did not catch much attention.

Crude oil inventory edged higher, by +0.162 mmb, to 362.7 mmb in the week ended May 14. The increase was lower than market expectations. However, Cushing stockpile also rose by almost +1 mmb.

Gasoline stocks fell -0.29 mmb as rise in production was offset by decline in imports, Demand fell slightly but should improve in coming weeks as we enter the driving season. Distillate stockpile drew as imports and production dropped -5.18% and -1.89% respectively. At the same time, demand soared +5.04% to 4.086M bpd during the week.

It's interesting to see that recent oil price slumps have been accompanied signs of demand recovery in the US. In particular, growth in distillate demand has accelerated in recent weeks with 4-week average reaching +4.18% on May 14 from +1.79% on April 30. The 3 consecutive weekly increases (4-week average data) also reversed the downtrend since the beginning of the year.

Natural Gas

Gas price plummeted in tandem with others in the energy complex and recorded losses for 4 out of 5 days last weeks. Despite less-than-expected increase in gas storage, investors worried about ample supply as driven by huge rise in gas rig counts. Nymex natural gas price surged to a 2-month high of 4.494 Tuesday before sliding. The benchmark contract ended the week at 4.035, down -6.42% on weekly basis.

The US Energy Department reported that gas storage rose +76 bcf to 2165 bcf in the week ended May 14, compared with 5-year average of +93 bcf increase. The 'mild' increase was driven by higher heating demand in the Northeast but the situation will not last for long. Gas bulls may be looking for to hot weather in the US. Weather Derivatives of Belton said cooling requirements in the US will be +36% higher than normal in the coming week. Weather forecasts show that temperatures will be above average in the Midwest in the next 10 days while the temperature in Chicago will be 18 degrees above average on May 24.

The number of gas rigs surged +18 units to 969 units, the highest level since April 16. We remain worried about long-term demand/supply balance in US gas market.

Precious Metals

Correction from recent rally was seen in gold last week. After surging to a record high of 1249.7 on May 14, the benchmark contract for the yellow metal declined and settled at 1176.1 Friday, losing -4.21% over the week. The fall was mainly due to profit-taking and liquidation of long positions to meet margin calls in other investments.

Gold's movement has decoupled from other commodities as well as the euro in recent months. We remain bullish in gold in the medium- to long-term as low-interest rate environment and huge budget deficits in the Eurozone, the UK and even the US should be positive for gold.

Late last week, the World Gold Council said the metal will attract demand as a means of inflation-hedge. The market inevitably worries about inflation as the ECB pledged to buy government and private bonds so as to restore financial market stability. Although the central bank said all purchases will be sterilized, analysts doubt the purchases may not be full sterilized. Investors are increasingly looking to gold for wealth protection. Moreover, investors are increasingly looking to gold for 'wealth protection' and 'the ETF market has been explosive and the intermediate market is on the cusp of growing very rapidly as major pension funds and institutional investors begin to hold gold long-term'.

PGMs were under heavy pressure last week with palladium the worst performer in the commodity sector last week. Settling at 439.5, Comex palladium plunged -16.8% during the week. The benchmark contract dipped below 400 on Friday before recovering. While investors dumped palladium amid concerns of demand for autocatalytic converter as global recovery slows down. Indeed, there was positive news from the market. Norilsk Nickel, the world's largest palladium producer, said that Russia is almost out of palladium stockpile. According to Viktor Sprogis, the Deputy CEO of the company, the government stockpiles of palladium are gone, as judge by indirect indicators. Therefore, 'we, as well as other major platinum-group metal producers, think this factor will no longer affect the market'. Russian supply of state stocks has kept the palladium market in surplus over the past 9 years. Johnson Matthey also estimated in its Platinum 2010 Review that supply from state stocks has been between 0.76M oz and 1.49Moz over the past 5 years.

Platinum fell -12.5% last week. The panic selling was driven by fears that a double dip in economy would cause slowdown in PGM demand. Moreover, potential moderation in Chinese economic growth as driven by government's tightening measure also hurt sentiment. However, we believe last week's decline was excessive and investors may accumulate on pullbacks.

Base Metals

Base metals remained under pressure but buying interest emerged again later in the week as prices reached oversold territories. The LMEX Index, a normalized average of future prices for the six metals (Aluminium, Copper, Nickel, Zinc, Tin and Lead) over 3 maturities, plunged to a 3-month low at 3025.5 on Monday before settling at 3152.1, down -2.04%.

Chinese government's efforts to cool down the property market have weighed on base metals. Although rate hike and RMB appreciation may be delayed to the third quarter as European crisis threatens global economic growth, measures implemented since the beginning of the year, including increase in banks' required reserves ratio and restrictions in new lending, have damped sentiment and property transactions have significantly slowed down. Economists have turned more cautious on the property sector.

Goldman Sachs forecasts transaction volumes will fall -40% between May and December from the same period last year, while home prices will slid -30% from current levels. Credit Suisse expects property transaction volumes will decline -15% y/y in 2010 while prices will slump -30% y/y.