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Are Commodity Prices Set to Stabilise?

It’s a much brighter morning for European indices today. Judging by the upside move in the FTSE, retaking the 6000 level in early trade, investors are looking past the weaker China PMI and perhaps thinking that a lot of the bad news has now been priced in.
Commodity stocks, with the obvious exception of Glencore, are better bid this morning and overall the individual energy and mining sectors are outperforming the broader index.

European PMIs were better than expected too.

The selloff in commodities has been extreme and in many respects exacerbated by a rising greenback as well as the general concerns over global growth.
It’s a well-known fact that China has been attempting to focus more on its domestic sector rather than manufacturing and exports and thus the PMI outlook for that particular sector would be expected to contract. Add to this the one off recent events, the explosion in Tianjin and the volatility that has come from the FOMC’s attempt to ‘guide’ the markets and you have a recipe that’s similar to honey for the bears.

Every day we attempt to provide a narrative for market shenanigans: short covering, bargain hunting, cash on the side-lines. The truth of the matter is that with conflicting reports on where commodity prices are going, the market is in something of a tailspin. These large index swings are characteristic of a downtrend and traders having been inoculated with a ‘buy-the-dip’ mentality over the past few years.

Brent Crude prices have been  consolidating in a fairly narrow range since the beginning of the month and appear to be stabilising when take in juxtaposition with the extreme downside seen in August. Still trading below the major moving averages and capped by the $50/bbl level, we may well be coiling up for the next leg lower should we remain below this psychological level. The strong dollar in the general risk off environment shows no signs of dissipating with only the Swiss Franc outperforming amongst the G10 currency basket this morning.

Oil inventories are due for release later this afternoon. Following last week’s surprising decline, we now look for an additional drawdown in stocks which could well be the upside catalyst here. The rebalancing of oil production to match the low oil prices may bestow an element of calm in a volatile market.
Given the FTSE’s weighting to energy stocks, this may help it remain above the 6000 level.

Iron ore remains under pressure, shedding 10% in the last 10 days and with growth forecasts for China looking softer, we may well see the bearish trend in situ since the beginning of the year continue its path towards the early July levels. Again, the prospect of lower production seems to be relevant here and this could come sooner than expected and provide a nice boost to the price.

Rio Tinto for example has shed some 30% since hitting it’s 52 week high in February and while the shares have dipped close to the lows seen in late August there is some timid buying at these levels.