18th – 22nd February
Both WTI and Brent experienced large falls this week, with
markets taking a greater emphasis from fundamentals while a number of technical
factors contributed to the sell-off. Overall Brent dropped 3.1% while WTI decreased
by 2.9%. Despite a more focused emphasis on supply fundamentals, market
perception of the factors affecting the Brent-WTI spread did not change, and
the divergence ended the week at $21, down slightly from $21.8 at the beginning
of the week.
Weekly Summary
WTI opened at $95.8 and Brent at $117.8, both $0.1 down from
where they closed on Friday. The first day of the week saw low trading volumes,
with US traders taking time off for President’s day. The main news on Monday
was that Saudi had reduced their exports in December to a 15-month low,
confirming the effects of a declining trend in crude production after it was
announced earlier in the month that January production reached a 15-month low.
Despite this news, or perhaps because it was just a confirmation of a known
trend, both grades fell -0.3% in European trading. Having said this, with
trading volumes 80% below normal levels, it’s more likely individual investors
actions led to the fall in price, which may have been related to
non-speculative purposes.
WTI made up for two previous falls with a 1% rise on
Tuesday, while Brent maintained its price. The rise in WTI came despite no significant
crude-related news events, and instead resulted from a rallying of US equities
which have been strongly correlated with WTI over the past months. Such an idea
was confirmed by Tim Evans of Citi, who stated “it’s likely a correlated trade
flow that isn’t based on oil market analysis”. This emphasises a key point to
bear in mind over 2013; true, there should be some correlated between expected
growth, represented by equity prices, and oil prices – but has the correlation
of the longer term trends rather than just average daily price changes resulted
in an oil price that doesn’t truly reflect its fundamentals?
Indeed, on Wednesday we began to see a correction in
response to the view that oil prices were becoming disconnected from reality,
and WTI saw a -2.1% decline while Brent dropped -1.5%. While many cited the
decline as a likely prospect in response to technical developments (Brent
technical analysis and WTI
technical analysis), the drops nevertheless were set off by a variety of
factors including rumours
that a fund was forced to liquidate its entire oil position. On top of this,
the fact that Wednesday was the expiry day of the March contract meant that
those long oil had to sell the front-month contract in order to roll forward to
the next month, thus exerting further pressure on the spot price. Economic
expectations were also at play, as the FOMC minutes showed that some monetary policy
makers were beginning to feel a rolling back the intensity of the QE program
was appropriate. The effect of this is not only to reduce the expected future money
flows into commodities, but also to cause appreciation expectations of the USD
to rise, thus reducing the attractiveness of oil in terms of both the spot
market and as an investment. While some suggested the WTI sell-off could be
related to US market fundamentals, an interesting point was that the Brent-WTI
spread actually saw some narrowing, suggesting that market perceptions of the
factors influencing the spread had not changed.
Thursdays trading contained no respite for either WTI or
Brent, and former dropped -2.1% while the European grade fell -1.5%. PMI data
in the euro area showed a surprise drop, pointing toward an economic
contraction for Q1. Adding to European woes were negative US initial jobless claims
numbers and a fall in the Phili Fed’s business activity index, which dropped
for a second month. While sentiment remains US-bullish, such data emphasise
that there continues to be short-term economic volatility. Trading down was
also likely due to technical pressures as investors perceived the drop past
support areas as signs that there could be some short-term losses as the grades
corrected.
Having said this, both grades pared losses on Friday, with a
positive release in the much-watched German Ifo survey making investors believe
the -3.3% WTI and -4.5% Brent falls in the last two days were probably too
high. The German data was the largest increase in German business sentiment in
2-years, which fuels hopes that Europe’s largest economy could continue to pull
the remaining countries through this recession. Nevertheless gains were limited
by a continuation of a stronger dollar; WTI increased just 0.2% while Brent
increased 0.4%. USD strength was enhanced by concerns that Sunday’s Italian
election will bring back to power political forces that ensured the country experienced
one of the lowest average global growth rates of the last decade - such a
result could reignite the euro area debt crisis. Overall WTI finished the week
at £93.1, $2.8 from its close last Friday, while Brent finished at $114.1, $3.6
down.
Week Ahead
The week ahead will likely be highly politised, with markets
reacting to the Italian election on Monday and focusing on Iran nuclear
negotiations that begin on Tuesday. The main US news will related to the $85
billion sequester, a collection of automatic spending cuts that come in to effect on 1st
March unless they can be avoided by political negotiations. As recent history
has shown, any agreement will likely come at the very last minute on Thursday,
and so markets will likely be on tender hooks with perhaps a big move on
Friday.
Data-wise, look out for Bernanke testifying in front the of
Senate Banking Committee on Tuesday as well as US consumer confidence on the
same day. US durable goods orders, an indication of investment, will be
released on Wednesday while various Q4 GDP figures will have their second
update this week. Normally these do not change a great deal. Chinese PMI data
will be released early Friday morning before the US equivalent later in the
day. The market typically moves in response to these, so we could see some
large moves on Friday if US political negotiations go in the same direction.
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