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From the Floor: Oil slides as bulls capitulate — #SaxoStrats

  • Oil prices slide in 'dramatic correction', with WTI dropping through $45/barrel
  • Oil drops below pre-November cut levels as longs give up hope
  • Technical sellers attacked the break in oil to take it even lower
  • Oil needs to regain $47/barrel (WTI) and $50/b (Brent) before market calms: Hansen
  • Opec cuts having limited effect amid surge in US and now also Libyan output
  • Opec has its hands tied and will need to extend production cuts: Hansen
  • Petro-linked and other commodity currencies hurt
  • EURUSD breaking higher towards 1.10: Hardy
  • After March disappointment, markets looking for positive April US jobs report
  • June Fed rate hike now priced at 93%: Boye
  • France-Germany spread narrows ahead of expected Macron election victory
  • European equities bullish, with Dax hitting an all-time high on Thursday

Saxo Strats banner
By John Acher

Oil prices plunged as oil bulls turned tail and fled and technical sellers went on the attack to take the price even lower. Industrial metals prices were also hit to round out the selloff in commodities. 

“We have had quite significant movements across the whole commodities space,” says Saxo Bank’s commodities strategy chief Ole Hansen. (Read also Hansen's latest update on the oil market action here on TradingFloor.)

“We have seen a massive amount of capitulation trades in oil over the past couple of days,” says Hansen. “Longs have been fleeing as short-term fundamentals continue to deteriorate.”

On Thursday, when the WTI price broke below the March low at $47/barrel, the selling accelerated from longs giving up to technical sellers attacking the break to take the price even lower, says Hansen. The price slid through$45/b and hit  $43.76/b overnight in Asia.

“So, at this stage, we are into a liquidation phase, which basically means it can move quite violently, and we have seen that already overnight – down 5% at one stage, now down just 2%,” Hansen says.

If most of the liquidation has now been carried out, then the oil market might be through the worst, but oil needs to reclaim $47/barrel in WTI and $50 in Brent before the market calms down, he says. “At this stage, it’s very difficult to say how much more liquidation needs to be done.”

WTI oil price drops more than 7% in last two sessions.
WTI oil price
 Source: Saxo Bank

“The problem is clearly that the data we have had recently just simply does not amount to a meaningful production cut or bring-down of global inventories, and that is the challenge,” Saxo's Hansen says. 

“Opec has high compliance with its production cut, but it is still shipping almost as if they hadn’t cut, which means that they are taking oil out of storage for their shipments,” Hansen says. 
The market was also hit this week by a pickup in Libyan production by more than 200,000 barrels/day, while US oil output has continued to rise.

Demand concerns for oil have also emerged this week, with weak US car sales and China tightening monetary conditions.

Verbal intervention from Opec can be expected in the period ahead. “And potentially we will start to see the market bounce before the May 25 Opec meeting because at this stage they clearly have their hands tied, and they have to cut production and maintain the production cuts into the second half." 

In the metals markets, high-grade copper is finding support at $2.50/lb after hitting resistance on Monday at $2.70. LME inventories have been up quite substantially in the past few sessions, and Chinese monetary tightening has raised concerns about housing activity, which could hit demand for industrial metals, and optimism about the infrastructure surge is fading.

The Bloomberg commodities index has hit a one-year low, primarily caused by weakness in growth-dependent cyclical commodities. 

Gold has been less bearish, with the yellow metal starting to stabilise after a big selloff, Hansen says. “We are seeing the silver ratio and platinum ratio also starting to calm down, that could indicate that most of the selling is behind us there.”

Euro gains ahead of French vote

The euro gained, and commodities-linked currencies fell.

“We are seeing EURUSD breaking higher,” says Hardy, noting a break for the major pair above the 200-day moving average and towards 1.10 even before the outcome of this Sunday’s run-off in the French presidential election is known. The centrist, Europe-friend candidate Emmanuel Macron is widely tipped to win against the far-right's Marine Le Pen.

“What’s going on here? Is it about the EU existential risks?” Hardy asks. “I think to a degree these are pulling back in, and of course we are seeing that in peripheral spreads across Europe.” (Read also Hardy's latest FX Update here on TradingFloor.)

EURUSD breaks higher, eyes 1.10 level
Source: Saxo Bank

But the euro’s strength is also linked to the commodities story, as the euro has been a relatively popular carry trade – selling the euro against emerging-market and commodity currencies. “And those trades are really unwound in a big way,” Hardy says. 

“The break is technically very interesting […] We are still ahead of the events, we need to hold into next week and see how the euro behaves, if this commodity weakness eases, to see if it is credible for a further follow-through,” says Hardy.

The slide in oil prices hit petro-linked currencies broadly, especially the Norwegian crown, but also the Russian rouble, the Mexican peso and others, while the Australian dollar fell after a plunge in iron ore overnight. 

US Treasury yields pulled to a three-week high. “Some of that might be related to liquidation of reserves globally, but that is also linked to commodity currencies,” Hardy says. 

AUDUSD tested lower, potentially opening the way towards the bottom of the range below 0.72 despite “relatively positive” comments overnight from the Reserve Bank of Australia on the economic outlook and stable Australian rates, Hardy says.

The markets are now keenly awaiting the April US nonfarm payrolls at 1230 GMT on Friday).
“After disappointment last time around, we need to see a relatively positive number, and the average hourly earnings are also important,” says Hardy. “Last time, of course, saw a very big plunge in the unemployment rate – that is probably going to mean revert back to relatively unchanged, it could even tick up again.”

A monetary policy conference arranged by the Hoover Institution will be the setting for several Fed officials -- Fischer, Bullard, Evans and Rosengren -- to speak on Friday.

France spread tightens

The fixed-income markets have so far not seen a major impact from the slide in oil prices and other commodities. “So far the risk-on sentiment has been the stronger of the two,” says Saxo Bank’s fixed-income trader Michael Boye.

US treasury rates have climbed ahead of Friday’s US employment report, and Bunds are under a bit of pressure, while the France-Germany spread has narrowed further ahead of Sunday’s run-off round in the French presidential election.

“Following the FOMC this week, a June hike is almost fully priced – 93% according to Bloomberg,” says Boye.

The pricing of French government bonds now reflects almost no risk of an upset victory for the far-right's Le Pen, with the France Germany spread tightening back to 43 basis points.

“The market is pricing about a 0% chance of a Le Pen winning this weekend’s election,” Boye says. “We might see a move towards 30 basis points on Monday, but that is not really sure because France is still going to see some significant political uncertainty going forward, so maybe this is a fair level.”

European credit default spreads are getting close to all-time low 2014 levels. “That really tells you that the market is very bullish on the European economy, the default probabilities are seen as very low, reflected in these spreads.” 

“Almost on fire”

European stock markets were in overdrive on Thursday, with Germany’s Dax hitting new all-time highs.

“We had a pretty bullish session yesterday in European equities – almost on fire,” says Garnry. “We remain bullish on European equities until we get a catalyst suggesting otherwise.”

“Phenomenal momentum since Trump’s victory when we were just below 10,500 [points in the Dax],” says Garnry. “If we continue to see the euro strengthen a little bit from here – if we above that 1.10 level and even further – that would be a cap on the momentum in European equities.”

Germany's Dax index hits all-time highs
Dax index
 Source: Saxo Bank

Quarterly results from European companies remain strong, with 5-6% revenue growth and 11-12% in operating profit growth, which Garnry says is the best in three years in Europe for the top line and the best in six years for earnings. 

Oil platform in calm seas
 Calmer seas here than in the oil markets. Photo: Shutterstock

John Acher is a consulting editor at TradingFloor


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