Ole Hansen, Head of Commodity Strategy at Saxo Bank
The Chinese devaluation earlier this month helped kick off a negative chain reaction across global markets. The outlook for global growth and demand has suffered a setback and this has raised speculation on whether the US Federal Reserve will be able to carry out a September rate hike.
Falling commodity prices are increasingly one of the root causes behind the malaise seen across many emerging market countries. Supply of key commodities such as crude, copper and iron ore continues to outstrip demand and the selloff seen these past few months have yet to show signs of halting. This past week the Bloomberg Commodity Index covering the performance of 24 major commodities fell by 2% and in the process hit a new 13½ year low. Gold and platinum came out on top as raised market uncertainty increased demand for alternative investments. The trend was intensified by a big dose of short covering from tactical investors who saw the July gold collapse as the beginning of an even bigger selloff.
Following the Chinese devaluation gold sentiment has improved. But it may still be too early to state that a low has been established with money managers and other paper investors in futures and exchange-traded funds still not seeing any clear reason for holding bullion.
What is clear, however, is that some of the negative drivers for gold has either slowed or disappeared. Competitive devaluations across emerging markets will trigger an increased demand for gold and other tangible assets as a hedge. After reaching a six-week high gold retraced some its gains on Friday as the market ran out of shorts to cover. Trend-line resistance at $1,169/oz stopped the advance and the coming days and weeks will tell whether a low in the market has been established. Weak stock markets and the continued exit of euro carry trades should keep the dollar on the defensive in the near term.
This, together with reduced expectations of when and by how much the Fed will hike rates can see gold settle into a range before eventually moving higher towards our end of year target at $1,275/oz.
Crude oil markets remain under pressure from an overhang of supply and the point of when we will see the market balance is fading further and further into the future. This is creating a lot of stress among oil exporters and the weakest of these being called the "Fragile Five" are well into crisis territory.
Oil producers, including some of the wealthiest in the Middle East, are burning cash at an alarming rate and the only medicine being applied at the moment is to pump as much as possible. At the same time, we are about to witness a slowdown in US refinery demand due to maintenance and subsequent rise in crude inventories the near-term outlook remains challenging.
The current market turmoil has also triggered worries about global growth and this could eventually call into question whether the market's view on oil demand growth is too optimistic. Add to this a likely increase in supply from Iran next year we may have to wait until 2017 before the market begins to balance, thereby allowing the price to tick higher.
A ratio this low has on several occasions in recent years created a strong response and price reversal, most recently in March when the market recovered strongly after hitting a multi-year low.
This time the sentiment feels different and the overall feeling is that it has to get worse before it gets better.