MartinKronicle: Commodity Report
Report for the Opening of markets on November 9, 2015
by Andrew Hecht
Last week, two big issues weighed heavily on commodity prices. First, the dollar exploded higher. The active month December dollar index futures contract has moved from 93.83 on October 15 to settle last Friday at 99.26 — an increase of 5.43% in just over three weeks. This is a huge move for the currency and the dollar index now looks like it will challenge the 100 level and recent highs made in March of this year. I continue to believe that the greenback will move higher and to parity against the euro currency. The move in the dollar was negative for commodity prices given the historical negative correlation between the two.
Second, the employment report last Friday indicated strength in the labor markets in term of job growth and wages the U.S. This increases the chances of the Fed raising rates at the upcoming December meeting. Both a rising dollar and rising U.S. interest rates are bearish for raw material prices. The prices of many commodities moved lower this past week.
Precious Metals- Both gold and silver put in bearish key-reversal trading patterns on weekly charts the previous week and they continued to move lower this week. Gold moved lower to close the week at $1088.90; it was down $52.50 or 4.6% on the week. Silver also moved lower, closing the week at $14.74 down 82.70 cents or 5.3% lower on the week.
Inter-commodity spreads between silver and gold and platinum and gold both continue to point to long-term divergence. This tells us that both platinum and silver are too cheap or gold is too expensive on a historical basis. Gold is now just under $20 above key long-term support, which a target given the trajectory of price and the bearish factors that weigh on its price.
Energy- Crude oil moved lower on the week but processing spreads showed a sign of life as both the gasoline and heating oil crack spreads rallied. Term structure in crude oil remains in contango but the level of the deferred premium has been tracking rather than leading underlying price movements; this week contango widened in both WTI and Brent spreads given the bearish action in crude. The Brent premium over NYMEX crude moved slightly higher to just above the $3 premium for Brent over WTI level. The move higher could be the result of fears of increasing turbulence in the Middle East after the downing of a Russian passenger plane traveling from Egypt to St. Petersburg. There is some evidence that ISIS was responsible for the action, which could further inflame an already dangerous situation in the region.
Natural gas recovered a bit this week with December futures closing at the $2.3550 level as the market prepares for winter. Inventories rose to the November 2012 all-time highs of 3.929 tcf. It is likely that increasing inventories have caused price weakness as we head into the winter season but inventories are at a level that is close to full capacity. Natural gas open interest is rising, which could be a sign that the market has become very short. The contango remains high with February futures trading at an 18.3 cent premium to December futures reflecting that demand will rise this winter.
Base Metals- Nonferrous metals on the LME all moved lower this past week, with the exception of aluminum, which rebounded after falling the previous week. On COMEX, the price of active month December copper futures declined on concerns about China and the prospects for an interest rate increase in the U.S. in December. Copper now stands just 2.05 cents above key support at the August 24 lows. The strong dollar has caused weakness in this sector over recent sessions.
Grains- Lethargic trading in corn and soybeans continues to push prices lower as the harvest season is supplying the market with a third straight year of bumper crops. CBOT wheat is showing signs of strength as the market rose to the upper end of the trading range as concerns about El Nino could cause prices to move even higher in the weeks and months ahead. December CBOT wheat closed at $5.23 1/4 per bushel with resistance just above at $5.315.
Soft Commodities- El Nino related weather events in the coming months could cause increasing volatility in the sugar, coffee, cocoa, cotton and frozen concentrated orange juice markets. The biggest volatility this week came in the FCOJ futures market, which moved to highs of over $1.40 per pound on Friday before pulling back. Sugar was close to unchanged this week after making a new high and failing. The March-May 2016 sugar spread, which I highlighted in last week’s report, closed unchanged at around a 35-point backwardation.
Animal Proteins- Meat markets moved lower this past week. The E-coli issues facing Chipotle may have created fear and induced selling in these markets. Cattle futures fell sharply on the week and lean hog futures traded to the lowest level since October 2009. The long-term average of the live cattle versus lean hog spread has been around 1.4 pound of pork value in each pound of beef value. This spread, on December futures, closed at 2.46:1 last Friday. In October, this spread moved higher before collapsing down to 1.8:1 as the contracts neared expiration.
There are plenty of profitable opportunities in the weeks and months ahead in the commodity markets for those who understand these markets. The strong dollar and deviation between U.S. interest rates and others around the world will surely create volatility in all assets classes, particularly in commodities, which tend to be the most volatile of all. The majority of these opportunities will come from spread relationships.