By Barani Krishnan
Investing.com - So, will oil return to $40 soon? Or will it get to $30 first?
After six weeks of trading virtually one-way, some serious volatility might be returning to oil as the market starts paying attention to the record stockpiles in U.S. crude, and hefty builds in fuel products like diesel, that hedge funds and other bullish investors had ignored for weeks.
If Thursday’s 8% crash - and Friday’s epic fail for even an honest redemption - is a guide, then the path of least resistance might be lower.
“I think some serious profit-taking may have kicked in,” Craig Erlam, senior markets analyst at online trading platform OANDA, said in his Friday note on oil. “We have to take this in the context of an asset class that has done rather well over the last couple of months, but $40 may remain an upside barrier for WTI.”
Oil’s crash was sparked by fears of a second coronavirus wave in the United States as the total number of Covid-19 cases topped 2 million, after a surge in infections in at least five of the 50 U.S. states after five weeks of declines across the country. The potential for a second wave of infections from the Covid-19 virus across the U.S. could prompt another at least partial shutdown.
If that wasn’t enough, Federal Reserve Chairman Jay Powell said on Wednesday the central bank might leave U.S. interest rates at near zero until the end of 2022. While a longer stretch of stimulus will be positive to markets, the Fed Chair’s remarks were also taken as caution that recovery from the pandemic could drag longer than thought.
This is despite the encouraging return of 2.5 million Americans to the labor market in May, despite losses of more than 20 million jobs in two months prior. Wall Street’s Dow plunged almost 1,900 points on Thursday, ending with its worst week since mid-March, on Powell’s sobering outlook for the economy.
Adding to the concerns of oil investors were U.S. commercial crude oil inventories, which grew by 5.72 million barrels last week, according to data from the Energy Information Administration.
“This increase now sees total U.S. commercial crude oil inventories stand at 538 million barrels, surpassing the levels seen back in early 2017, and in fact the highest level going as far back as 1982,” ING said in a research note.
Just as startling as the crude stockpiles were distillate inventories led by diesel. These soared by 1.6 million barrels last week, bringing inventories to nearly 53 million barrels over the past nine weeks.
Some were less pessimistic in their outlook for oil though.
Despite the surge in distillate stocks, Goldman Sachs (NYSE:GS) said demand for gasoline - one of the most important components of oil - was steadily picking up.
“Implied demand data shows gasoline demand bottomed in late April and has been improving steadily on a rolling 4-week average basis as the economy has started to reopen,” said Goldman, one of Wall Street’s most influential voices in commodities trading. “We expect this trend to continue as the country moves forward with reopening.”
Goldman also noted that crack spreads - or the profit derived by refiners -- have started to recover, although they remain below historical average levels.
“We attribute the improvement to a swift reduction in utilization rates from the refining sector and a recovery in gasoline demand that has driven higher gasoline margins despite weakness in distillate,” it said. “We believe the decision of many refiners to drop jet fuel into the diesel pool has driven diesel margins lower relative to gasoline.”
The reopening of credit markets to refiners have also helped, as some have sought incremental liquidity to weather the downturn, while many have issued incremental debt.
“Since March 1, five of the nine companies under our US refining coverage have issued new bonds for a total amount of about $7.1 bn at a weighted average interest rate of about 4.6%,” Goldman added. “We believe the willingness of the debt capital markets to open to the refiners, particularly those that are high yield, is underpinned by a bottoming of refining macro fundamentals.”
In gold’s case, just a week after being crushed by the best U.S. jobs report in three months, the rally in the yellow metal was back, as fears of a Coronavirus 2.0 in the U.S. propped up the safe haven.
The yellow metal ended the current week up more than 3%, virtually recouping all it lost in the previous week to June 5 - a decline that came on the back of the surprising 2.5 million jobs gain for May, reported by the U.S. Department of Labor.
“Market turmoil has gold traders salivating at another chance at breaking above the $1,750 level,” said Ed Moya, analyst at New York-based online trading platform OANDA.
“Gold will see both steady safe-haven demand as many investors take heed to Fed Chair Powell’s cautious outlook and as a raft of central banks will deliver more stimulus next week,” Moya said. “Over the next week, gold will have its eyes on $1800 as it will remain powered by the stimulus trade, virus angst, and US-China tensions.”
Energy Markets Review
Crude futures fell 8% on the week - virtually matching the crash of the previous session and ending a six-week rally - after settling with mixed prices on Friday.
“I think some of the CTA length that we saw enter the energy market in the last few weeks may have exited yesterday,” Scott Shelton, energy futures broker at ICAP (LON:NXGN) in Durham, North Carolina, said, referring to hedge funds.
“We could perhaps have more to sell as the size of the selloff often results in some of the slippage systems kicking in and deciding to wait a day to sell. Should prices weaken again, I would expect to see some ‘catch up’ with regards to CTA selling.”
New York-traded West Texas Intermediate, the benchmark for U.S. crude, settled up 14 cents, or 0.4%, at $36.48 per barrel.
London-traded Brent, the global benchmark for oil, gained 40 cents to settle at $38.95.
For the week, WTI lost 8.3% while Brent shed 8.4%.
It was the first week of losses after six previous weeks of gains that lifted WTI as much as 300% at one point and Brent 170% from April lows.
Energy Calendar Ahead
Monday, June 15
Private estimates on Cushing oil inventories from Genscape.
Tuesday, June 16
American Petroleum Institute weekly report on oil stockpiles.
Wednesday, June 17
EIA weekly report on crude stockpiles
EIA weekly report on gasoline stockpiles
EIA weekly report on distillates inventories
Thursday, June 18
EIA weekly report on natural gas storage
Friday, June 19
Baker Hughes weekly survey on U.S. oil rigs
Precious Metals Markets Review
U.S. gold futures for August delivery settled down $2.2, or 0.1%, at $1,737.60 per ounce on Friday. For the week, the gold futures benchmark rose more than $54, or 3.1%.
Spot gold, which tracks real-time trades in bullion, settled at $1,730.86, up $3.30 or 2%. For the week, it rose 2.7%.
The Fed left U.S. interest rates at near zero in its monthly review earlier this week, with Chair Powell saying he did not expect rates to rise until the end of 2022 — suggesting that economic recovery from the Covid-19 could take at least two years. The central bank is, meanwhile, using its virtual limitless funds to prop up the economy and financial markets and lend to businesses caught up in the crisis.
Gold’s run-up this week was also helped by Goldman Sach, which said it expects the yellow metal to reach $1,800 per ounce on a 12-month basis. The Wall Street firm said gold had potential to arch beyond $2,000 from the tail risk of above-target inflation.
* Disclaimer: Barani Krishnan does not own or hold a position in the commodities or securities he writes about.