Commodities/Forex

Andy Hecht

Top 3 Ranking in Commodities, Metals & FX --SeekingAlpha

Gold Shines- Commodities And the Fed

  • The Fed speaks
  • Gold takes off- Silver and platinum do not
  • Energy- Bullish and bearish factors in crude while natural gas falls to a multiyear low
  • Industrial metals- Copper acknowledges the Fed but waits for next week
  • The dollar- Says higher commodity prices are on the horizon

The path of least resistance of individual commodity prices is often a collection of supply and demand dynamics. Meanwhile, the microeconomic factors can be put to the side at times when macroeconomics take over. Plenty of issues, including the weather, government policies, and geopolitical events can impact the path of raw material prices as the overall direction of the asset class is a multivariable equation. Last week, the asset class received perhaps the most bullish guidance possible from the US Fed.    

Gold is both a commodity and a financial asset. When most market participants think about commodities, their attention focuses on gold and crude oil. Gold has a myriad of industrial applications, but central banks all over the world hold gold as part of their foreign exchange reserves, which makes the yellow metal a currency or means of exchange.

I have been writing about the ascent of gold in all of the leading currencies since the turn of this century. I believe that rising gold prices in the dollar, the yen, the euro, and other global currency instruments for the past decade and one-half is a commentary on the value of fiat currencies that have value because of the full faith and credit of the countries that print the legal tender.

Since the United States is the leading economy on the earth, and the dollar is the reserve currency of choice for central banks, decisions by the US Federal Reserve have a significant impact on the price of the yellow metal as well as most commodities prices since the dollar is the benchmark pricing mechanism for most raw materials. Last week, the Fed lit a bullish fuse under the gold market, sending the price to a multiyear high and causing a technical breakout to the upside. The move in gold could be a harbinger for price action in the commodities asset class.

The Fed speaks

On Wednesday, June 19, the US Federal Reserve announced that they left the Fed Funds rate at 2.25-2.50%. Only one member of the FOMC dissented and wanted to move interest rates immediately lower. However, eight members favor lower rates by the end of this year, and two believe the move should be a minimum of 50 basis points. The central bank told markets that the low level of inflation, which continues to run at below its 2% target rate, is the reason for a decline.

Moreover, “crosscurrents” from global markets when it comes to trade issues and economic weakness in Europe and China are problematic. In the aftermath of the Fed decision, statement, and Chairman Powell’s press conference, stocks and gold took off to the upside, and the dollar moved lower. The market now believes that the Fed will cut interest rates twice for a total of 50 basis points by the end of 2019. However, any surprise from the G20 meeting next week in the form of an agreement between Presidents Trump and Xi on a trade deal that ends the protectionist policies could change the global economic dynamics. The summit in Japan was likely the only reason why the US central bank left rates unchanged at the June meeting.

Gold takes off- Silver and platinum do not

Lower US interest rates weigh on the value of the US dollar as they decrease the gap between yields on dollar and other currency deposits. Since the dollar index has a 57% exposure to the euro currency, the current differential between the two currency instruments stands at 2.65-2.90%. Lower rates in the US should lower that gap as Europe is more likely to use QE and other forms of stimulus rather than reducing their short-term rates from negative forty basis points. Moreover, President Trump and Secretary of the Treasury Steve Mnuchin have not been shy about their desire for a weaker dollar. At his press conference, Chairman Powell said that the dollar is the responsibility of the US Treasury, which could be a sign that the dollar is heading lower.

The gold market has a long-standing inverse relationship with the dollar, but lower rates also lower the cost of carrying gold inventories. Moreover, falling interest rates amount to stimulus, which is inflationary. Historically, the yellow metal is a barometer of inflation. The price of gold took off immediately following the June Fed meeting, and it broke through two critical technical levels on the upside like a hot knife through butter.

Source: CQG

As the monthly chart highlights, gold rose above the 2018 double-top high at $1365.40 from April and January last year. It also moved and closed the week above the 2016 post-Brexit high at $1377.50, which was the critical line in the sand on the upside for the precious metal. The continuous futures contract traded to a high at $1406 before closing at just below the $1400 per ounce level, the highest price since 2013.

Technically, gold now faces the steep decline that occurred from 2012 through 2013, which the next level of significant resistance at the 2012 peak at just under $1800 per ounce. However, there could be some congestion at the $1428 level from August 2013. While gold exploded higher and passed through technical resistance levels, the price action in the silver and platinum markets were disappointing. Based on the closing prices at the end of last week, the silver-gold ratio was at a stone’s throw away from its record high. 

Source: CQG

As the chart of the price of the nearby silver-gold ratio shows, at 91.22:1, it is within striking distance of the all-time modern-day peak at 93.18:1 from 1990. In 1990, the high in gold was at $428, and in silver, it was at $5.445 per ounce, a far cry from today’s prices. Silver is a highly speculative metal, and while the price moved higher to a peak at $15.555 per ounce last Friday, it backed off on the close. If gold continues to rally, it could cause a surprise move in the silver market as the herd flocks to “poor person’s gold.”

Platinum has been underperforming gold since 2014, the last time that “rich person’s gold” traded at a premium to the yellow metal.

Source: CQG

The quarterly chart illustrates that platinum fell to a new modern-day low against gold at the end of last week at over a $590 discount.

I believe that if gold is now in the early stages of a new bullish leg, silver and platinum prices should eventually follow the yellow metal to the upside. Since the platinum and silver markets are less liquid, we could see wild volatility if the bull begins to take prices higher.

The jury has not issued a verdict on the gold market as of June 21, but the stage is set for higher prices if the dollar continues to decline, US rates fall, and the global concerns over the economy and peace in the Middle East continue to grip market participants over the coming days, weeks, and perhaps months.

Energy- Bullish and bearish factors in crude while natural gas falls to a multiyear low

Crude oil closed last Friday at a price that best reflects the current state of the energy commodity when it comes to the price. The active month August NYMEX future contract settled at $57.43 per barrel.

Source: CQG

As the chart illustrates, the nearby crude oil futures contract traded to a high at $66.22 on April 23, and a low at $50.79 on June 5. The midpoint of the range is at $58.51, just around $1 above the June 21 settlement price, and in the aftermarket on the final session of last week, the price was trading up to the $57.70 level which was not far below the average price over the past two months.

On the bearish side of the crude oil market, US production leads the world at 12.2 to 12.4 million barrels per day. While the latest reports from the API and EIA showed declines in inventories, stockpiles have been moving mostly higher over the recent months. At the same time, the trade dispute between the US and China escalated in May, which helped push the price of the energy commodity to the lows in early June. Economic weakness in China is a bearish factor for global oil demand. Additionally, the prospects for regime change in Venezuela are rising as the economy deteriorates. Eventually, the oil-rich nation will once again produce significant amounts of petroleum since they have the world’s leading reserves.

On the bullish side of the oily coin stands Iran. Attacks on tankers, missiles finding their way into Saudi Arabia, and the latest downing of a US drone near the Strait of Hormuz all add up to global the global supply concerns that lifted the price of oil towards the midpoint of its trading range last week. Any hostilities that impact the production, refining or logistics of transporting crude oil around the world could cause price spikes to the upside and are keeping the bid under the price of crude oil. US sanctions are choking the Iranian economy, and the leadership in Iran promised that if they are not shipping their oil around the world, they will make sure others in the region of the world with over 50% of the world’s reserves will not have an easy time shipping their petroleum to customers. Lately, any tanker that travels from the Persian Gulf through the Strait of Hormuz into the Gulf of Oman is fair game for the Iranians or their proxies in the region. Iran and the US have been at odds since the Islamic Revolution in the late 1970s, and there is little hope that any resolution to the conflict is on the horizon. The relationship deteriorated under the Trump Administration when it walked away from the 2015 nuclear nonproliferation agreement, and now Iran has told the world they intend to begin enriching uranium. A nuclear Iran is not acceptable to the US. Oil is the monkey in the middle when it comes to the conflict, and the current environment promises to keep a bid under the price of the energy commodity even with the rise in US output. Iran’s relationship with the Putin government in Russia and the Chinese complicates matters for the US who are standing firm with the Saudis and Israel on their side of the conflict. The Middle East remains the most dangerous political region in the world, and the temperature is rising by the day.

At the same time, lower US interest rates and the potential for a falling dollar are also supportive of the price of crude oil as the dollar is the benchmark pricing mechanism for both WTI and Brent crude oil futures.

When it comes to the natural gas market, six consecutive weeks of triple-digit inventory builds have pushed the price of the energy commodity to the lowest price since 2016. After trading to a high at $4.929 per MMBtu in November 2018, the price dropped below technical support at $2.50 per MMBtu in April, and after a meager attempt at a recovery, the price tanked over the past weeks.

Source: CQG

The monthly chart shows that the price of gas has registered a decline over the past seven straight months. July natural gas futures settled last week at $2.186 per MMBtu after hitting a low last week at $2.159. The next level of technical support is at the psychological $2 level, and below there the March 2016 bottom at $1.611 stands as the critical line in the sand on the downside. Before 2016, natural gas had not traded at a lower level since the late 1990s. The dollar and interest rates in the US are likely to have little influence on the price of natural gas. However, since the US is now exporting the energy commodity around the globe in liquid form, US prices could create more of a global pricing system for natural gas and cause foreign prices to decline.  

Industrial metals- Copper acknowledges the Fed but waits for next week

Copper and base metals are sensitive to the level of the dollar and US interest rates, and following last week’s Fed meeting, the price of the red metal moved a bit higher.

Source: CQG

As the daily chart of July COMEX copper futures highlights, the price moved higher to over the $2.70 per pound level at the end of last week after trading to a low at just under $2.60 on June 7. Copper faces the trade dispute on the one hand and more accommodative Fed policy and a falling dollar on the other. Copper is waiting for this week’s meeting between Presidents Trump and Xi to move higher or lower. Since China is the world’s leading copper and base metals consumer, the commodities that trade on the London Metals Exchange could experience significant moves on the up or the downside depending on the outcome of the Trump-Xi summit. A trade deal would light a bullish fuse under the copper market, while any further escalation that leads to a trade and currency war could send prices to lower lows.

Meanwhile, another industrial commodity has made a strong comeback on the prospects for lower interest rates.

Source: CQG

The price of volatile and illiquid lumber futures rallied from a low at $286.10 per 1,000 board feet on May 29 to settle at $405.30 on June 21, a recovery of 41.7% in under one month. Lower interest rates are driving mortgage rate to the downside, which is likely to increase the demand for new houses. Lumber is a critical ingredient in construction.

The path of least resistance for commodities prices appears higher as an asset class after the latest guidance from the Fed. However, the summit between the US and Chinese leader this week is going to be the most influential factor for most prices, including agricultural products like corn, soybeans, cotton, and even cattle and hog prices as the protectionist wave has caused lots of price distortions in the raw materials markets.

The dollar- Says higher commodity prices are on the horizon

The dollar index is always a barometer for the commodities asset class and given the recent guidance from the US central bank; the greenback could begin to play a more pivotal role. The price action in the gold market is telling us that the dollar is heading lower, but time will tell if the dollar index is set up for a substantial correction.

Source: CQG

As the daily chart of the September dollar index futures contract shows, the greenback fell through it first level of short-term technical support at the 95.89 level following the FOMC meeting and settled on June 21 at 95.718.

Source: CQG

Meanwhile, the index has been in a bullish trend since early 2018 when it hit a low at 88.15. The three technical levels on the weekly chart stand at 95.17, 94.635, and 93.395. A decline below those levels would likely end the bullish run in the dollar that began just over sixteen months ago.  

The bottom line when it comes to the dollar is that the most influential factor for the path of least resistance of currencies is interest rate differentials. For the first time since late 2015, the Fed indicated that the yield spread between the dollar and the euro could begin to narrow as soon as in July. A falling dollar because of lower US interest rates is a bullish factor for all commodities prices, and last week gold was shouting that we should all wake up and smell the coming rallies.

Andy Hecht covers Commodities and Forex as one of the original contributing analysts at FATRADER. A former senior trader at one of the world’s leading commodities trading houses, Philipp Brothers (now part of Citigroup), Andy has worked and consulted for banks, hedge funds, and commodities producers and consumers around the world for over 35 years.
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