With a light week ahead for economic reports and the ending week of the corporate earnings season, there is not much on the calendar in the week ahead to result in a major event driven market move one way or the other. Overnight in China the non-manufacturing PMI came in at 56.1 in December or the fastest pace since August on the back of gains in retailing and construction. The services sector is showing solid signs of expanding and yet another signal that the Chinese economy may have turned the corner.
January was a solid month for most risk asset markets including the oil complex and the first day of trading in February started in much the same way that January ended on the support from a better than expected US nonfarm payroll report. Money has been flowing into most equity markets with bonds losing ground. In fact the US bond market has been in a downtrend since the fourth quarter of 2012 suggesting that money from the bond market may be slowly starting to rotate into the equity sector. How long this continues is still an unknown and how long investors continue to feel comfortable after the large equity gains in January is an even bigger question.
As I have been discussing in the newsletter for about a week the equity markets in particular are overbought and susceptible to a round of profit taking selling. I do not expect a very large downside correction as the money flow and seasonal tendencies should keep equities somewhat supported... barring a major event or macroeconomic data surprise. The US Dow... which has had a strong run upward since the beginning of the year... has pretty much been following the seasonal tendencies experienced both last year and the pervious year. The major difference this year is the meteoric and almost unabated gains during the month of January.
Both 2012 and 2011 were able to continue in an uptrend until the end of April before experiencing a strong downside move. However, there were modest rounds of profit taking selling along the way. This year the gains have been exceptional (so far) suggesting that a more pronounced downside correction could occur prior to the end of April unlike what we saw over the last two years. The caution flag continues to fly.
With the correlations between oil and equities at a very high level so far this year any corrective move in equities will almost certainly translate very quickly into the oil complex. For the short term oil prices are being strongly impacted by the direction of the equity markets which are being impacted by the plethora of better than expected macroeconomic data. The caution flag continues to fly for the oil complex due to the current high correlations to the equity sector.
Oil has also been supported by the growing and evolving geopolitical concerns especially in the Middle East and North African region. However, over the weekend a bit of the edge may have come off on news that both Iran and the West have agreed to the next round of talks to take place on February 25th in Kazakhstan. In addition Vice President Biden announced on Saturday that the US is ready to offer bilateral negotiations with Iran if Iran is prepared for serious discussions. The announcement has pushed oil prices lower to start the week as the market views another round of talks as a sign that there will be no military action in the near future and thus a minimal potential for an unexpected interruption in oil supply from the region. Although none of the talks that have taken place over many years have ever resulted in a concrete solution there is always a possibility that this time a breakthrough could emerge. As such the geopolitical risk premium is not likely to widen strongly over the next month or so or until the outcome of the talks are known.
The oil complex ended the week higher... with RBOB gasoline once again leading the complex to the upside. The market has been concerned over the upcoming refinery maintenance season starting to get underway along with the announcement of the shutdown of Hess's Port Reading cracker impacting gasoline supplies ahead of the upcoming summer driving season. I view the move in gasoline as overdone and very overdue for a downside correction. For the third week in a row RBOB gasoline was the largest gainer in the complex after a surprise decline in inventories this week.
WTI increased the least in the complex (% basis) as the Seaway pipeline remains constrained due to the bottleneck at the Jonas Creek terminal. The pipeline operator has not given any timetable for a return to normal operating capacity. The spot WTI contract increased by 1.97% or $1.89/bbl while Brent gained about 3.07% or $3.48/bbl. Crude oil stocks in PADD 2 and Cushing were modestly higher as a result of the Seaway pipeline restrictions..
The Mar Brent/WTI spread widened by $1.59/bbl after widening by about $1.55/bbl the previous week. The Mar spread has broken out of the downward trending trading channel to the upside and is currently trading near the next level of resistance of around $19.50/bbl. If this level is breached the next stopping point is not until the $20.80/bbl level hit back in November of last year. I am still expecting the spread to trade in single digits sometime during the second half of 2013 on the premise that the Seaway pipeline solves its current bottlenecks in a timely manner.
On the distillate fuel front the Nymex March HO contract increased modestly by 3.66% or $0.1117/gal on the week as distillate fuel inventories decreased modestly as temperatures were more normal over parts of the US. Gasoline prices increased strongly on the week after a surprise decline in inventories. The March Nymex gasoline price increased by 5.67% or $0.1638/gal this past week.
The March Nat Gas futures contract was relatively flat decreasing by just 0.12% or $0.0042/mmbtu on the week and remains in the $3.20 to $3.50/mmbtu trading range as the market continues to be focusing on the nearby projection for warmer than normal weather set to hit next week.
The Nat Gas futures contract has been trying to push higher since the immediate sell-off after yesterday's EIA inventory release. However, as of this writing it looks like that effort is starting to wane. Aside from the fact that yesterday's net withdrawal from inventory was bullish versus last year and the five year average for the same week it is not going to be repeated in next week's inventory based on the warm spell this week. In addition the inventory withdrawals for the next several weeks are likely to underperform versus history basis the latest NOAA six to ten day and eight to fourteen day forecast which both remain bearish.
The six to ten day forecast covering the period Feb 6 to the 10th is projecting above normal temperatures across the eastern two thirds of the country with the mid-west expecting strongly warmer temperatures. The eight to fourteen day forecast is marginally less bearish in that the above normal temperatures are forecast for the eastern half of the country for the period February 8th through the 14th. As it looks at the moment the first half of the February will likely experience less than normal levels of heating demand for the first half of February and thus not supportive of higher prices or at least not supportive of the market breaking out of the upside of the trading range (about $3.50/mmbtu) during that period.
This now leaves only half of the month of February to mount a sustained winter spell before the warming that is projected to occur hits the last official winter heating month... March. Yes this winter heating season has been better from a heating demand perspective than last year but it will still be below normal when the numbers are tallied at the end of March and inventories at the end of the heating season will be above normal.
On the financial front equity markets around the world were mixed for the week with all bourses except Brazil still in positive territory for 2013. Market participants continue to look at signs that suggest that the global economy may be starting to stabilize. Global equities are higher for the year to date primarily as a result of the view that the combination of all of the money printing by central banks around the globe coupled by some of the uncertainty of the fiscal cliff slowly starting to move into the background. Global equity values were marginally lower on the week as shown in the EMI Global Equity Index table below but remain in positive territory for the year.
The EMI Index decreased marginally by 0.07% on the week with the Index showing a year to date gain of 2.6%. Over the last week the big gainers were the UK, the US and Japan.
The euro was higher on the week while the US dollar was lower driven mostly by the announcement that many European Banks have repaid more of the emergency loans last week than what was originally forecast. Last week the global equity markets were a neutral price driver for oil and most commodity markets.
I am maintaining my view at neutral and keeping my bias at cautiously bullish even though the current fundamentals are still biased to the bearish side. However, the technicals and forward fundamentals are suggesting that the market could be setting up for a continued move to the upside now that the spot WTI contract has breached its upper resistance level once again. That said I am raising the caution flag that an equity market correction will impact oil prices in much the same way... round of profit taking selling.
I am keeping my Nat Gas view and bias to cautiously bearish as the weather forecasts and nearby temperatures remain bearish. As I have been discussing for weeks the direction of Nat Gas prices are primarily dependent on the actual and forecasted weather pattern now that we are in the heart of the winter heating season and currently those forecasts are bearish at the moment.
Markets are mostly lower heading in the US trading session as shown in the following table.
Dominick A. Chirichella
Follow my intraday comments on Twitter @dacenergy.
*Disclaimer: The information in the Market Commentaries was obtained from sources believed to be reliable, but we do not guarantee its accuracy. Neither the information nor any opinion expressed therein constitutes a solicitation of the purchase or sale of any futures or options contracts.
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