Weekly Fundamental Outlook for Energies and Metals - How Far Would You Go For Cash?

Price movements in the past week were rather out of expectation. RJ/CRB Commodity Index rose 2.35% to settle at 282.14 Friday but remained 2.67% down for the week. Oil price traded below $70/bbl for the first time in 15 months despite OPEC's ideal price was set between $70-90/bbl. The so-called ideal price was revised from 'above $100/bbl' a month ago. Gold tumbled and broke out the broad trading range from 822.5 to 936.3. The sharp selloff ruined the cautiously optimistic outlook for the precious metal. While it sounds abnormal for gold to underperform during times of uncertainty, the major reason is that investors prefer to hold cash as their risk appetite approaches zero when facing with the biggest recession since 1930s. We expect more liquidation activities to be seen in coming weeks and months.

Crude Oil

Crude oil traded below $70/bbl for the first time in 15 months Thursday as weak economic data vanished the last hope of investors that the slowdown was overplayed and demand expectations continued to be scaled back. WTI crude oil for November futures fell 7.5% for the week despite a $2 rebound Friday. On Friday, the black gold recovered to intraday at 74.3 before settling at 71.85 as the market expected some support from OPEC's production cut next week.

Although the bailout plans put forward by the US and European governments did thrill investors, the analeptic did not work for long. Renewed concerns that sharp decline in oil demand due to recession emerged after EIA reported US fuel demand as total US fuel use fell to a 9-year low of 18.6M bbls/day during the past four weeks. Oil inventories were higher than expected, as shown in last week's report. Crude oil and gasoline inventories were up by 5.61M bbl and 6.97M bbls versus expectations of +2.6M bbls for crude oil and +3.0M bbls respectively.

Weak retail sales, consumer confidence and housing indices reinforced the gloomy outlook. US retail sales plummeted 1.2% in September, the largest drop since August 2005. Consumer confidence in both US and Canada fell to levels that were not seen in over 20 years. University of Michigan monthly survey showed Americans' confidence slipped to 57.5 from 70.3 in September, the steepest one-month drop on record since the index began in 1952. Meanwhile, the confidence index conducted by Conference Board fell to 73.9, a 26-year low from 85.8. As consumer spending contributed more than 60% of total economic activity, the bigger-than-expected decline significantly increased the risks of a recession.

For the week ahead, we expect oil price to extend recent weakness after completing recovery on Friday (upside should be capped below 77.1. As both fundamental and technical prospects remained bearish, another decline to 66-68 cannot be ruled out, albeit some support by OPEC's emergency meeting on Oct 24. Market expected a cut in production by around 1M bbls/day, in addition to the c.500 000 bbls agreed at the September meeting.

Saudi Arabia's, the largest oil supplier in the world, budgetary requirements would influence OPEC policy rather than those of ‘smaller' nations, which may have higher oil price thresholds to balance their national budgets. In 2008, Saudi's revenues forecast was SR 450bn from which over 85% were come from oil production assuming 9.5M bbls/day and an average realized oil price of $45/bbl. In this case, they only need WTI oil price to be above $50/bbl. Therefore, Saudi may not have much incentive to cut production as they indicated several times before.

Natural Gas

Natural gas rose 1.82% to settle at 6.825 Friday after falling to 1-year low at 6.436 the day before. Price declined in the past three weeks as investors concern demand would fall amid a slowing economy. The weather is getting cold from Texas to Massachusetts next week that utilities and industrial users began piling up stocks. Quite strong buying forces were seen below $7 but as long as 7.938 resistance holds, bias is still on the downside.

Gold

Gold fell 2.1%, or $16.8/oz, to settle at 787.7 Friday. Over the week, the precious plunged 8.3% as institutional investors, mainly hedge funds, liquidated the positions to cover losses in the stock market. Moreover, as near term inflation pressure reduced, the precious metal's use an inflation-hedge became less attractive. As of Oct 16, SPDR Gold Trust, the world's largest gold-backed ETF, said its bullion holdings was reduced to 10.72 tons to 756.86 tons. The trust set a record at 770.64 tons on Oct 13 as turmoil in global financial markets spurred demand for bullion as a safe haven.

US CPI was flat in September, compared with consensus of up 0.1% MoM. On a YoY basis, the measure for general price level rose 4.9%, also lower than market forecast and the data in August. Inflation data in coming months should continue to ease as oil prices tumbled by more than 50% from the peak at 147.27 in March. Leading consumer price indicators such as import and producer prices each posted big drops in September. The difference between rates on 10-year Treasury Inflation Protected Securities, or TIPS, and conventional notes was 0.96%.

Carry trades on Japanese yen and flight for Treasury products strengthen the dollar. The yen posted its first weekly decline vs euro in a month as rallies in stock markets encouraged investors to buy higher yield assets funded by low-cost loans in Japan.

For the coming week, gold price's outlook became gloomy as the fall on Thursday and Friday was drastic and severe. Recovery is expected on Monday or Tuesday as price has entered oversold territories. However, if USD continues to rally and investors continue to cash out, the benchmark contract would then weaken to 750 level later in the week but we still hope that the support at 739.8 could hold.

Rate cut announced by the FED in Oct 29 will offer some support to gold. 38% of traders believed the FED will cut its target rate 50- 100 bps. The rest expected a 25 bps reduction. Rate cut is negative for USD and hence positive for gold.

Silver

It's confirmed that silver's decline from 21.44 in March remained in progress after the support level in September was broken early last week. The benchmark contract fell 2.28% to 9.415 Friday and 11.2% for the week as the metal was pressured with other industrial metals on worries about slowing demand. Silver's bearishness remains and further weakness to 8.48 cannot be ruled but we expect to see a rebound in the first few days next week due to oversold condition.

Platinum

Platinum futures for January delivery dropped 1.2% to $881oz last Friday, the lowest closing price since July 20, 2005. The price fell 12% for the week. Decline in auto sales worldwide and fund liquidation were the main reasons for the selloff.

At current price level, we should expect large production cut as mines cannot withstand the losses as price fell below $1000. According RBC Capital, 'Once we dip below USD 1,100/oz, we find hardly any growth potential from the current 5 million ounces a year production base, and once the metal price basket dips below USD 1,000/oz, we see current output declining drastically.'