Financial markets were, and will be, mainly directed by sentiment over the sovereign debt crisis in the Eurozone. Headlines regarding what will be delivered after the EU summit (now the key meeting will be on October 26) were mixed and somehow confusing. Yet, no matter what plans will be announced after the meeting, it remains a long road to solve the problems facing the Eurozone as they require an entire structural reform in the fiscal system.

There are several issues that European leaders need to address during the meeting. The foremost thing is the Greek issue. The base scenario shows that the country will likely be able to repay its debts. Policymakers have been discussing about increasing the haircut on Greek government debt to 50-60% from 21% agreed previously. Other issues include bank recapitalization and expansion of the new EFSF program.

Apart from the awaited EU summit, the BOC and the RBNZ will hold meetings on October 25 and October 26 respectively. Both are expected to highlight downside risks to global economic growth but to leave interest rates unchanged.


Energies: Oil prices traded choppily during the week. While the WTI-Brent spread narrowed, another important phenomenon we observed in recent weeks is the surge in Brent time spreads despite falling crude oil prices. The steep backwardation indicates the tight physical market we are experiencing. It's a rare case for time-spreads to rise while oil prices are falling. The last time we experienced steep backwardation was 20 years ago, during the Gulf war period.


We notice that there were things in common for the situation today and 20 years ago. During the Gulf War, oil supplies from Kuwait and Iraq were disrupted and Saudi Arabia, the world's largest oil producer, had to increase exports to substitute the loss in production from the 2 countries. This year, the civil war in Libya has also resulted in oil disruption and Saudi Arabia again decided to ramp up production. However, the quality of oil between oil producing countries are different, it's difficult to fully substitute the lost supplies.

Global economic outlook has weakened rapidly in recent months. In particular, US' economy has been deteriorating so sharply that has triggered the Fed to embark operation twist at the latest meeting. 20 years ago, US' economy was in recessionary territory from 3Q90 to 1Q91.

However, concerning oil fundamentals, the demand/supply balance is not as bad as one believes. Prompt physical market remains tight as supply is limited while demand has been firm despite the economic turmoil. During the Gulf War period, crude oil inventory fell sharply in the second half of 1990.

US natural gas price dropped during the week. The DOE/EIA reported that gas inventory increased +103 bcf to 3 624 bcf in the week ended October 14. Stocks were +46 bcf less than the same period last year and +113 bcf, +3.2%, above the 5-year average of 3 511 bcf.

Separately, Baker Hughes reported that the number of gas rigs dropped -9 units in 927 in the week ended October 21. Oil rigs slipped -1 unit to 1079 and miscellaneous rigs were flat at 7 units, sending the total number of rigs to 2013 units. Directionally oriented combined oil, gas, and miscellaneous rigs dipped -9 units to 241 while horizontal rigs fell -11 units to 1142 and vertical soared +10 units to 630 during the week.



Precious Metals: Gold plunged for the first time in 3 weeks. The near-term outlook of the yellow metal is tilted to the downside as recent movement of gold price has been in line with equities and other metals.

After rising to a record high of1923.7 in early September, gold has suffered from sharp correction as driven by long liquidation and CME's increases in margin requirement. It's likely that gold is demonstrating what silver experienced in the second quarter 2011. The white metal slumped after CME's margin hikes. Prices stayed in consolidative mode after the selloff. Gold is likely showing similar movements.

In the medium- to long-term, we remain bullish on gold and believe it will strike new record highs as long as global economic outlook remains uncertain and central bankers are committed to maintain a low interest rate environment.