WCU: Silver outshining gold; near-term direction of crude oil is lower

WCU: Silver outshining gold; near-term direction of crude oil is lower

Baku, Azerbaijan, Apr. 19

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By Ole Hansen, Head of Commodity Strategy, Saxo Bank

The commodity complex rose for a second week with support from multiple sources helping to offset a stronger dollar.

China's trade and growth data both pointed towards a stabilizing, but still debt fueled economy. This helped support industrial metals while also giving grains a boost due to strong demand for soybeans.

Crude oil reached a four-month high before suffering losses ahead of the weekend meeting in Doha. Brent crude oil has rallied more than 60% from its January low. The latest support, apart from a continued slowdown in US production, came from the International Energy Agency, which in its monthly report said that the global market could almost balance before year-end.

Silver, which for the past month had seen increased demand from investors through exchange-traded products, took off and in the process left gold behind. Silver's use as an industrial metal on the back of improving Chinese data and its historic cheapness relative to gold was the main driver behind the continued demand.

Gold continues to settle into the range that has prevailed for the past couple of months. During this time, holdings in exchange-traded products backed by gold have stabilized following the big gold rush at the beginning of the year. After failing to make a clean break above $1,255/oz, a stronger dollar helped pull it lower and currently gold is stuck in a range where support can be found at $1,210/oz.

Following the strongest start to a year in decades, however, the rally has halted and this has supported a move towards focusing on silver instead. Since early March, the demand for silver ETP's has been very strong (with gold stabilizing). The trigger for the outperformance seen this week came from Chinese data and the technical break down in the ratio. Silver, contrary to gold, has many industrial uses that account for more than half of annual demand. As a result, silver has now overtaken gold as the best performing precious metal this year. It also means that a technical break higher for silver itself or lower on the ratio is required to attract further momentum buying.

Crude oil reached a new high for 2016 before nervousness ahead of the Doha freeze talks on April 17 helped trigger some profit taking. US inventories reversed the surprise decline from the previous week but support continued from another weekly decline in production.

Ahead of the Doha talks, Bloomberg reported that tanker-tracking data had found that Iran may have increased its shipments so far this April by more than 600,000 b/d to more than 2m b/d. if confirmed Iran has singlehandedly offset the entire US production decline to date.

My comment to Bloomberg was that "Iranian volumes highlight that a rebalancing of the market will have to come primarily from countries outside Opec, provided that crude prices don't rise too far. If Iran can keep up sales of that magnitude during the coming months when supply disruptions from northern Iraq and Nigeria begin to fade, we may have to look a bit further out for that rebalancing."

A sharp reduction of excess supply does, however, come with a disclaimer about price. If the price of oil continues to rally from here it would eventually negatively impact the current production slowdown.

Increased hedging activity from producers could indicate that some are once again able to breathe and are desperate to rebuild their shattered balance sheets by steadying production. The number of outstanding futures contracts on Brent crude has reached a new record on increased positioning from hedgers and speculators.

The open interest on both WTI and especially Brent crude oil futures contract (as seen above) have been rising, which indicates increased activity from funds and/or increased hedging by producers. The fact that Brent crude has seen the biggest jump could be a result of the recent collapse in the prompt contango spread that has reduced the pain of holding and rolling a long position.

The Doha meeting has concluded with a resounding "No Deal". Saudi Arabia's insisting on Iran being part of a freeze deal seems to have been the trigger behind the failure.

Opec has once again been high on promises but low on delivery as politics once more got in the way. A "consultation" period (or buying more rebalancing time) among producers lasting until June has now been announced.

In my preview last week, I wrote that the game changer in the oil market these past few months has come more from the shale oil fields of North America and other high-cost producers than the producers meeting in Doha.

With a record long position in Brent and a 11% jump in WTI longs last week the near-term direction is lower.

A lower price will help speed up the rebalancing even further so i do not expect a major decline but the record long will undoubtedly have to be adjusted. I stick to $35-$45 as being my preferred range for Brent crude this quarter.

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