The Hindu Business Line : Uncertainty dogs metals, energy markets

The world financial market in general and commodity markets in particular are going through extremely uncertain times. The crisis of confidence is palpable. A big hit to global growth prospects turning into recessionary conditions has scared every market participant. Stock indices and commodity prices are falling almost every day rather routinely. The bottom is still not in sight, although every fall raises expectation of proximity to the bottom.

While rapidly falling demand is currently the focus of market attention, prices as well are falling as fast. There has been aggressive shorting in many commodities, especially in crude and base metals. One can expect heightened levels of price volatility across the board. As technical traders have built sizeable short positions in some markets, the danger of violent short-covering rallies is growing, assert experts.

Obviously, for market participants, caution is the watchword. In the short-run, the US dollar is expected to continue its strong run. Quite apart from other factors, until the dollar begins to reverse direction, respite from falling commodity prices may be difficult.

Gold

Investor demand has swung the gold balance into deficit in the third quarter according to the latest report. Jewellery consumption has rebounded strongly. On the back of physical demand, the metal has continued to receive support and stay above $700 an ounce in recent days, despite a meltdown in other markets and uncertainties surrounding the global economy. Yet, gold failed to decisively move upwards well beyond $750/oz.

A sharp spike in prices was witnessed on Friday though. London PM Fix was $774.50 an ounce, up from $738/oz the previous day. Later, in New York, prices spiked even more sharply by over $50 an ounce in early trades.

The market seems to have the potential to breach and exceed $800/oz in the short-term as diversification and safe haven demand are likely to underpin prices. This is notwithstanding a strong dollar. The outlook for the yellow metal is surely bound up with prospective developments in the international financial system and movements in the US dollar over the next several months.

The widely expected strength of the dollar in the short term may cap the upside potential of gold. Investor interest is of course the key and investment demand will be the swing factor.

Silver prices have been under pressure for some time now. In London spot market, on Friday the AM Fix was at $9.17/oz versus previous days $9.39/oz. According to the GFMS silver market review, in the short term, prices can rally on the back of a pick up in investor interest despite weaker fabrication demand. In 2009, GFMS expects silver prices to average $13/oz, although independent experts are not so upbeat.

According to technical analysts, because of the strong upside break gold had last Friday and a strong close, there could be follow-through above 800 to add confidence that the market was on its way towards and perhaps above 850-860. However, in the medium-term, given the dollar strength, prices could retrace to lower levels.

Base metals

The entire complex has been reacting to serious concerns on the demand side following the onset of recessionary conditions and contraction in liquidity.

The uncertainty surrounding the global financial markets and growth prospects is expected to continue to sustain volatile conditions.

Base metals have been targeted for short selling. This could potentially cerate short-covering rallies which may of course not sustain given the macroeconomic context.

Inventory levels are rising, adding to the markets woes. On Friday, LME cash prices were as follows: Aluminium $1,702 a tonne; copper $3,506/t; zinc 1,175/t; and nickel $ 10,000/t.

Producers have responded to market conditions with output cuts. Zinc, nickel and aluminium have seen the largest cuts so far (in addition of course to steel). But the scale of demand deterioration means more cuts may be needed or resorted to. There is pain left in the market. Price dips may prove a good buying opportunity provided one has the capacity to hold on to the position until recovery begins. In aluminium, further weakness is seen in the market in the short term.

Copper may see range trading with prices in the low-to-mid $3,000 level. In case of nickel, demand is weak and stocks are hefty; so, sideways trading is likely. In zinc, there have been sharp output cuts which may arrest near-term downturn to prices. There is potential for sharp short-covering rallies.

Crude

Prices continued to decline over the week with the front-month WTI contract falling to its lowest levels since May 2005. Demand conditions are weak. Output cuts have not yet begun to impact.

In the short-term, prices will be influenced by demand side issues and financial/economic data.

However, into the new year, continued output cuts (with possibility of more to come) may result in tightening supplies. Notwithstanding current weakness, far forward prices continue to stay firm, suggesting that the market expects prices to improve, going forward.