by By Ole Hansen (Head of Commodity Strategy, Saxo Bank)
In this commodity update we combine our thoughts from the quarterly outlook, which was released this week, with an up to date look at events and performances over the past week.
The DJ-UBS commodity index has been trading slightly weaker over the last week and is currently showing a year-to-date performance of just 5 percent. Gains in the energy sector, primarily gas oil, Brent crude and natural gas was off-set by losses in the two other sectors, especially agriculture while metals also saw some losses as the dollar regained some ground and the S&P 500 index dropped to pre QE3 announcement levels. Within the agriculture sector sugar and Arabica coffee prices were hurt the most, both on supply friendly news.
Into the fourth quarter we think the impact of the latest round of quantitative easing will fade and the dollar should find some support which in turn will create some headwinds for the commodity sector as a whole. We continue to favour gold as raised inflation expectations and low official US rates until 2015 will keep the real rate of return on fixed income investment entrenched in negative territory.
Energy prices, which had another attempt to the upside in Q3, once again found lack of support from sluggish economic fundamentals and lower to flat prices followed.
Increased production and the eventual removal of bottlenecks following refinery turnarounds should ensure a subdued price action into Q4 barring any geo-political upheaval.
Oil range-bound
Global oil demand growth is expected to be subdued in the coming quarters as continued growth in demand from emerging economies will almost be off-set by declining demand from OECD countries. This should help keep the price of Brent crude, the global benchmark for crude oil, range-bound during the final quarter of 2012, especially after the latest liquidity aid from central banks failed to ignite a market rally which had been witnessed on previous occasions.
With three quarters of the year gone Brent crude has been averaging $112 per barrel. We expect the full year to be closer to $110 and based on that assumption expects Brent crude to spend most of the final quarter between $105 and $110 per barrel.
Near-term upside price pressure exists: WTI crude’s discount to Brent remains elevated and has reached $23.50 per barrel, the highest level since October 2011. The reasons behind the latest move are several; low demand for WTI following a few US refinery outages combined with high domestic production has kept WTI under pressure.
Brent crude oil meanwhile have witnessed fewer than expected shipments leaving the North Sea following delays in the resumption of production following maintenance together with on-going geopolitical tensions in Middle East, increased this week with the stand-off between Syria and Turkey which is putting Iraqi flows at risk.
Natural gas
Natural gas continues to find support as coal to gas switching has helped reduce the supply glut in US underground storage facilities. A major spike however is not expected as this could result in the switch to be rolled back, given current depressed global coal prices.
The extraction season, when demand exceeds supply, is slowly approaching and near-term forecast for lower than normal temperatures have seen natural gas maintain support around 3.44 USD/mmbtu being the 50 percent retracement of the 2011 to 2012 sell-off.
Peak winter demand prices in February are already trading close to $4 and further upside from that level will create some friction given the price sensitive relation between coal and natural gas. A cold snap as opposed to the very mild winter witnessed last year would however lend support as inventories would shrink even further.
Precious metals
Gold investments through Exchange Traded Funds reached a new record during the week with more than 200 tonnes added since the rally resumed in mid-August once the price moved above $1,625/oz.
Hedge funds and other leveraged investors only joined in following the break above that level but have since then added 380 tonnes.
Physical demand from China and India, the two major buyers, has been subdued but a pick-up has been witnessed over the last couple of weeks while central bank buying, especially from emerging economies, is expected to reach a new record in 2012.
All in all we continue to see further upside potential for gold and to a lesser degree silver as reduced demand from industrial users increases the pressure on financial investors to keep the supply surplus down.
With the open ended nature of quantitative easing, part three, we see the potential for gold reaching the 2011 high at $1,921/oz during December following an initial period of consolidating as $1,800 offers strong resistance. Into 2013 the rally may eventually take us up and above the physiological barrier of $2,000 before reaching a technical target of $2,075. The absolute line in the sand below is now $1,500 but we expect technical support at the 200-day moving average, currently at $1,659, will hold off any downside attempts.
