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Playlist: Quarterly Outlook

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2:15
Quarterly Outlook: Rebalancing act
Ole Hansen
12 January 2017 at 14:00 GMT
2:46
Quarterly Outlook: At the crossroads
Simon Fasdal
12 January 2017 at 13:30 GMT
3:22
Quarterly Outlook: Risky rollercoaster
John J Hardy
12 January 2017 at 13:00 GMT
2:01
Quarterly Outlook: New dawn or bust?
Kay Van-Petersen
12 January 2017 at 11:30 GMT
2:00
Quarterly Outlook: Sweet spot
Peter Garnry
12 January 2017 at 11:00 GMT
1:09
Quarterly Outlook: Unready UK
Dembik Christopher
12 January 2017 at 10:30 GMT
1:29
Quarterly Outlook: The 1970s all over again
Steen Jakobsen
12 January 2017 at 10:00 GMT
1:41
Quarterly Outlook video: Green but guarded
Ole Hansen
07 October 2016 at 12:53 GMT
4:53
Quarterly Outlook video: Marathon bull run
Peter Garnry
06 October 2016 at 12:01 GMT
4:30
Quarterly Outlook video: Queasy and uneasy
John J Hardy
05 October 2016 at 12:05 GMT
4:27
Quarterly Outlook video: Before false gods
Kay Van-Petersen
04 October 2016 at 12:09 GMT
1:54
Quarterly Outlook video: Carry me home
Simon Fasdal
03 October 2016 at 11:59 GMT
1:44
Quarterly Outlook video: The new mantra
Dembik Christopher
30 September 2016 at 12:06 GMT
2:15
Quarterly Outlook video: Don the helmets
Steen Jakobsen
29 September 2016 at 13:58 GMT
3:06
Essential Trades Q3 - A critical quarter: Garnry
Peter Garnry
12 July 2016 at 7:10 GMT
Video / 12 January 2017 at 14:00 GMT

Quarterly Outlook: Rebalancing act

Ole Hansen
Quarterly Outlook
 
  • Gains in energy, industrial metals drove Bloomberg commods index in 2016 
  • Several hurdles must be cleared for this performance to extend into 2017 
  • Oil market focusing on Opec, non-Opec producers' ability to deliver output cuts 
  • We expect oil producers will cut production, but not by the agreed amounts 
  • Potential delay in rebalancing would create risk of corrections later in the year 
  • Biggest Q1 risk to oil comes from potential long liquidation after rapid build-up 
  • We see gold challenged in early 2017, but a base is likely to be established in Q1 
  • Our Q1 2017 outlook is available now
By Ole Hansen

The Bloomberg commodity index swung to profit in 2016 for the first time in six years. Representing the performance of major commodities, with one-third in energy, metals and agriculture, the gains were concentrated among industrial metals and energy.

Several hurdles need to be successfully cleared for this performance to carry on into 2017. Donald Trump will become US president on January 20, and the market will keep a watchful eye on how he plans to revitalise US growth. While Trump could be successful in presenting growth-friendly policies, the risk of a trade war, especially with China, carries the risk of hurting global growth and demand for commodities.

When it comes to gauging the outlook for commodity demand, China will get a lot of attention, as usual. The rising battle against pollution, which back in December seemed to run out of control in northern China, combined with currency and liquidity fears has the potential to reduce growth and subsequent demand growth, especially for industrial metals. 

Crude oil
Oil prices in 2017 will hinge largely on whether Opec and non-Opec producers 
deliver the output cuts agreed at the end of November. Photo: iStock

The energy sector will be subject to a split focus. The US natural gas market will be driven by the severity of the US winter and subsequent demand for gas. The oil market, meanwhile, will be focusing on the ability of Opec and non-Opec producers to deliver the promised production cuts while also keeping an eye on production levels from countries not bound by the November agreement, especially Libya, Nigeria and the US.

The biggest risk to oil during the first quarter comes from potential long liquidation following a rapid build-up in bullish oil futures bets to a record during December.

Into 2017, crude oil will seek to further capitalise on the prospect that the market will finally rebalance as supply is lowered to meet demand. This is based on the assumption that Opec and non-Opec producers will deliver the promised and required cuts necessary to balance the market. 

Opec

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Nothing is ever simple, especially when it comes to the oil market. While the first quarter of 2017 is likely to see Brent crude stay above $50/barrel, the market will increasingly turn its attention to whether the production cuts will be delivered.

Considering Opec’s poor history in complying with its stated production targets, the potential for rising production from Libya and Nigeria, and US shale oil producers’ likely collective response, we could see the upward trajectory of higher lows and peaks challenged on several occasions.
That could happen perhaps already during the first quarter, not least considering the near 900-million-barrel combined long position in WTI and Brent crude oil. A position of this record size needs low volatility and compliance to be maintained. Any failure on either of those requirements could trigger a rapid rewind during which oil could slump by between $5 and $10.

We do expect, however, that both Opec and non-Opec producers will cut output, but not by the agreed amounts. This is likely to delay the rebalancing process, thereby creating the risk of price corrections later in the year.

Rebalancing
Nothing is ever this simple in the oil market, which faces a 
difficult rebalancing act. Photo: iStock

Outside market developments are also going to play varying roles in setting oil’s price. Donald Trump won the US presidential election on a platform that promised tax cuts and increased infrastructure spending to boost the economy. These pledges have so far led to a stronger dollar while triggering a major rotation out of bonds as US inflation risks have been repriced.

The risk of protectionism, a stronger dollar, and rising cost of financing could potentially spell trouble for some emerging-market economies, thereby weighing on oil demand. Against this comes the risk of sanctions against Iran being re-introduced, so the oil market is likely to offer another year of major market movements.

With all of these considerations taken into account, we see the average price of Brent crude oil rising to $54/b in 2017 from $45/b in 2016. The highest price of the year (around $60/b) is likely to be seen during the second quarter after which time rising US production and a non-extension of Opec’s production cuts would see the market settle into a range.

Crude oil
Source: Saxo Bank

Gold returned to profit for the first time in four years in 2016. But with the year distinctly cut into two halves, the outlook at the beginning of 2017 is a copy of the negative sentiment towards precious metals seen at the beginning of 2016.

An incoming US administration promising growth-friendly policies triggered a major rotation out of bonds into stocks during the final quarter of 2016. The outlook for several rate hikes from the US Federal Reserve combined with rising bond yields, the stronger dollar and higher stock prices all helped change the outlook for gold, and it drove a major exodus out of “paper” investments.

Hedge funds cut a record-long gold futures position by 85%, while investors in exchange-traded products pulled 225 tons out of the 600 tons that was bought during the first 10 months of 2016.
The dollar’s trajectory, especially against EUR and JPY, remains clouded, but with a potential dollar high in sight, we see limited further headwind from a rising greenback. While we wait to see whether hopes can be replaced with action by the new US administration, the rapid rise in bond yields following the US November presidential election may also have run its course for now. Combining this with rising inflation expectations, we should see relatively subdued real yields.

High inverse correlation between gold and the dollar and US real yields created a great deal of headwind during final months of 2016.
 
Gold
 
While a Trump presidency initially has been perceived as negative for investment metals, we see several risks ahead which could change this impression. The rising populist vote, which gave us Brexit and Trump, will increase uncertainty ahead of key elections in Germany, France and the Netherlands. In the US, the risk of a trade war, especially with China, and a foreign policy carried out via Twitter could also create demand for safe-haven assets.

Gold’s failure to break the 2011 downtrend on several occasions last year has left the metal in search of support. It found some at $1,125/oz after correcting 76.4% of the December 2015 to July 2016 rally. We see gold challenged at the beginning of 2017, but as some of the strong negative drivers begin to fade, a base is likely to be established during the first quarter.

XAU
Source: Saxo Bank

Ole Hansen is head of commodity strategy at Saxo Bank 
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