Friday August 5th 2016

The Oil Fall

Friday August 05^th  2016

Overview

The early call for the Oil market to come back around the 40$ were right in the end. Many analysists forecasted this latest drop correctly as Tuesday WTI pierced the 40$ handle trading as low as 39.26$. Prices snapped straight back up the very next on a better than expected gasoline inventories and a good amount of short covering. As a guide the 2016 high for WTI is 51.67$ (in June) and 52.86$ for Brent. Traders are again focusing on the supply side. Downward pressure returned as overproduction in crude and refined products has left onshore storage tanks brimming and triggered the chartering of tankers to store unsold fuel. Also there are growing worries that China's imports are weakening from records set in 2015 and this year. Investors added the equivalent of 56 million barrels of short positions in the three main Brent and WTI futures and options contracts in the week to July 26. At the moment we have Crude at 41.36$ down -1.3% on the day and Brent at 43.82$ down -1%.

In the meanwhile the Oil debt is mounting as biggest oil companies have piled on debt to pay dividends during the price slump: Debt levels are currently rising at an annual rate of 11.5 percent, more than double the 5.1 percent witnessed between 2009 and 2014, said Virendra Chauhan, an oil analyst at consulting firm Energy Aspects Ltd. in Singapore. As crude trades well below $50 a barrel, Exxon Mobil Corp., Royal Dutch Shell Plc and other oil giants have seen their debt double to a combined $138 billion. When prices were around 140$ per barrel the combined net debt was only $13 billion.

Elsewhere in the UK, we had the BoE meeting where Governor Mark Carney and fellow policy makers delivered a salvo of monetary cutting their benchmark interest rate to a record low of 0.25% (first time since 2009) and promising to buy more government and corporate bonds. FTSE 100 rallied as a weaker pound lifted shares of multinational companies and Gilts went bid pushing the 10-year yield to a record low. The British pound got slashed coming back the 1.3050 level together with the UK pension funds with combined liabilities jumping 70 billion pounds to a record 2.4 trillion pounds, according to consultancy Hymans Robertson. This widened the deficit of the funds to 945 billion pounds, the worst it has ever been.

Moving to the USA, today we had another strong job report with an increase in July +255K vs Exp. 180K of new jobs created. Also, the average hourly earnings came out pretty strong at +0.3% vs exp. 0.2% with the unemployment rate basically unchanged at 4.9%. A good job report which send the EUR/USD sinking at 1.1050 and the dollar index back up again the 96.00 handle. Equities at the highs with the S&P500 at 2175 points and the Dow at 18500 points. This should somehow shrug off the bad GDP data we had out last Friday and some disappointing manufacturing data we had during the week.

Looking at China we began the week with a very good PMI Caixin Manufacturing number for July at 50.6 vs Exp. 48.7. This was the first month above the 50.0 mark after 16 months of contraction. Nevertheless the Official Chinese PMI number (for the Chinese Bureau) show a slight contraction at 49.9 vs exp. 50.0. The Caixin report tends to give more weight to light industry, whereas the official survey is skewed more toward heavy industries, said Zhengsheng Zhong, director of macroeconomic analysis at CEBM Group, according to Caixin. Industrial profits rose at the fastest pace in three months in June, but gains were concentrated in just a few industries including electronics, steel and oil processing. Other readings on Monday pointed to signs of cooling in both the construction industry and real estate, which were key drivers behind better-than-expected economic growth in the second quarter. Still a bumpy ride but definitely with some signs of stabilization.

Metals

The base metals complex is not doing much at the moment but consolidating at fairly high levels and with very thin volumes. Difficult to go over the 15000 lots on the LME select on Copper. As expected we are still seeing good buying interest in Nickel and Tin with the latter printing today new 2016 fresh highs at 18450$. The move should be associated with a new production drawback from PT Timah that has lowered its 2016 production estimate by at least 3,000 tonnes, the Indonesian producer said on Thursday. "We are reducing our target to 24,000-27,000 tonnes this year after we have seen our production struggling in the first half of the year,"; State-owned PT Timah, the world's third-largest tin smelter, produced 27,431 tonnes of refined tin in 2015 and had previously estimated it would produce 30,000 tonnes this year, according to industry body ITRI.

Nickel is still very supported but yet struggling a bit around the 10800 mark where selling interest comes in. Again it is all about the Philippines’ mining audit at the moment and still the views are somewhat different. According to JP Morgan an assumed 50-percent drop in Chinese ore exports from the Philippines - an unrealistically steep drop, in its opinion - because of increased regulation, would amount to a loss of around 100,000 tonnes in contained nickel volumes this year. Increased shipments from Indonesia, Myanmar and New Caledonia this year will probably amount to slightly more than 100,000 tonnes of contained nickel, fully offsetting even the most dramatic estimates of a decline in Philippines exports. On the demand side, it noted "signs that Chinese nickel demand have started to weaken". The Chinese stainless steel sector has entered the seasonally slow third quarter, with some mills shutting for maintenance. Buying interest has also softened in China on the worsening negative LME-SHFE arbitrage. On the other hand we read reports where President Rodrigo Duterte, who swept to power on June 30 with a vow to crush crime by targeting hundreds of suspected drug dealers, warned miners this week to follow tighter environmental rules or shut down, saying the country can survive without mining. The Philippines supplied 95% of China's nickel ore imports in the first six months of 2016, according to Chinese customs data. "If the Philippines does shut its mining industry, the fact that you've got high stocks simply won't matter, the market will simply skyrocket," said Wood Mackenzie analyst Andrew Mitchell. We can see that at this point market is very uncertain. I’d tend to play it on the long side but being very careful at the day-by-day news on the Philippines.

Goldman and JP Morgan seem to agree on Copper though, where the better than expected supply and the relatively low and stable demand could sink the prices in the next 3 to 6 months. JP upgraded its estimate of 2016 production to 20,251,000 tonnes, an increase of 1.6 percent on its November 2015 estimate. To gauge the outlook for supply, Goldman tracks 20 companies that account for about 60% of worldwide production, according to the report. These 20 raised output 5% on-year in the first half of 2016, and are expected to increase that to as much as 15% in the coming quarters, it said. “This ‘wall of supply’ is expected to translate into higher copper smelter and refinery charges and ultimately, higher refined-copper production, set against softening demand growth,” Layton and Fu wrote. The metal is seen at $4,500 a ton in three months and $4,200 in six, they said, reiterating targets.

JP Morgan also noted signs that the Chinese aluminium market is starting to correct. Domestic prices have slipped five percent in the last two weeks, pulling LME prices down 5.4%. The SHFE backwardation has also eased to just above 200 yuan per tonne in July from more than 400 yuan. The reason for the turnover seems to be demand- rather than supply-driven - concerns about demand prospects in the second half of the year are growing, it added.

In zinc, JP Morgan sees the potential for modest intermittent downside over the coming month amid seasonally weaker demand compounded by slower trading and the possibility of some profit-taking. A dramatic retracement in price is unlikely due to strong investor interest and the consensus view of refined tightness emerging in the next six-12 months although the current prices still look slightly ahead of actual physical refined fundamentals, it added. "Zinc's fundamentals continue to catch up but aren't at the fever pitch embedded in the price," the bank said. Definitely agreeable.

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