PRIOR WEEK MARKET MOVERS, LESSONS FOR COMING WEEK
It was an eventful week, here’s a summary of what happened and the key lessons for the coming week and beyond.Commodities Crash
In just the first week of May, here’s what happened to commodities.
Gold lost half of its April gains (though uptrend is so strong it remains in its Double Bollinger Band Buy Zone on both weekly and monthly charts)- suggesting we maintain our long bias until it leaves this area bounded by the upper orange and green bands.
GOLD MONTHLY CHART COURTESY OF ANYOPTION.COM 05MAY 07 2340
Silver surrendered all of April’s gains and about half of March’s as well, at one point this past week down about 30%
SILVER MONTHLY CHART COURTESY OF ANYOPTION.COM 04 MAY07 2340
WTI Oil lost almost all of the past 2 month’s gains this past week.
WTI OIL MONTHLY CHART COURTESY OF ANYOPTION.COM 06may07 2342
If you would like to know where commodities are headed, keep watching silver as it led both moves – higher in April and lower in May.
Here’s a chart with a broader view of the carnage in commodities.
COMMODITIES PERFORMANCE WEEK OF MAY 2-6 COURTESY OF OILNGOLD.COM07may07 2358WHY THE COLLAPSE IN COMMODITIES?
Plenty of reasons were proposed over the past week, for example from GaveKal Research (via businessinsider.com) we quote:
- The Glencore IPO has everyone thinking this is a Blackstone-like top in the commodities market. (Josh Brown has been all over this one)
- The fact that silver is sliding even with a weak dollar reminds everyone that all commodities are vulnerable.
- Across all markets, “leadership” is narrowing. (See our recent COTD).
- Fiscal stimulus is being removed in China. (See this report from China).
- A recent IMF report indicated that Asia-Pac is still very early in the tightening cycle, and still generally in an expansionary fiscal position that needs to come down.
Oil prices of course have a huge speculative component, so we expect them to exaggerate risk aversion moves just as they overstate risk appetite. Indeed many believe there is no fundamental justification for oil being over $100 / bbl. See here for details.
Of course, there’s also the ongoing backdrop of economic slowdown in most of the developed world
However these and other evidence of weakening fundamentals have been around for a while. At some point a pullback was due.
What were the catalyst?
Two stand out.
- The recent run up in commodities made them vulnerable to a pullback. That doesn’t explain this week’s timing, but the inevitable retest of support was due at some point soon.
Why this past week? Here’s one clear catalyst.
- CME Raises Margin Requirements For Silver: In order to reduce volatility, the Chicago Mercantile Exchange (NASDAQ:CME) has been raising margin requirements in silver over the past 6 months. Typically that would lead to a mild correction which presented traders with an opportunity to establish their bullish bias at better levels.
However, the pace of margin increases over just the past 2 weeks, up 84%. On April 25th the initial margin requirement stood at $8,700, effective Monday May 9th (this upcoming Monday) the CME is set to raise it to $16,000. This was the most likely catalyst which led to the sell-off in silver. News that George Soros and Carlos Slim have been selling silver no doubt added to the panic.
As an aside, rumors of potentially higher CFTC margin requirements for crude, similar to those recently implemented in silver, may have added fuel to the crude selloff. While unsubstantiated at this time, they’re worth noting as a possible contributor.
These may have started things rolling, but in order to explain the follow through, we need to seek additional new bearish conditions.Fundamentals
Data from the US, UK and EU outside of the core funding nations has been steadily downbeat. In addition, US earnings season failed to provide the lift it has typically delivered in the past years. As earnings season wraps up, just 60% of companies have “beat” expectations so far – the lowest rate of any quarter in the current bull market. Finally, QE 2 is set to end, even though income from current holdings will be reinvested in US bonds to keep the Fed’s balance sheet from actually shrinking. Although the great liquidity contraction has yet to begin, the expansion is ending.Technical Evidence: S&P 500, EURUSD Approach Multi-Year Highs, QE 2 End In Sight, Begs Profit Taking
The bellwether S&P 500 Index began the week new 1380, under 200 points from its pre Great Financial Crisis highs of 2007, though the global and US economy is in much worse condition. The EURUSD was challenging pre Greek Crisis highs of a year ago of 1.5000 though the EU debt crisis too has only gotten worse, with Greece at the brink of default and 2 other nations on bailout life support, and too-big-to-bailout Spain’s situation has also deteriorated.
Admittedly, these assets have been challenging and breaking though significant resistance for some time now, though the above catalysts, combined with the above technical and fundamental conditions, may have been enough.
Certainly they had help from bearish fundamentals this past week.EUR Bearish News
Euro zone events allowed for additional follow through to the extent that they changed current market perceptions not only for this week but for at least a part of the coming week as well.
- Thursday’s dovish ECB remarks. Concerning inflation, Trichet omitted the key “strongly vigilant” language used to telegraph imminent rate hikes. He also reiterated support for a strong USD, and by implication, acceptance of a weaker EUR. This set back the timing and pace of EUR rate increase hopes on which the entire EUR rally of the past months as been based, setting the stage for a EUR pullback, and thus a USD increase, which, by the way, further undermined commodities.
- With rate hike hopes dampened, that allowed markets to refocus on the EUR’s deteriorating underlying fundamentals, which have been deteriorating over the prior months, and took a turn for the worse this week. Specifically:
- A poor Portuguese bond auction
- Rumors of Greek threats to leave the EU/ impending debt restructure: A roughly 50% default on Greek bonds has already been priced in, Germany has publicly admitted a Greek restructure is coming, and EU officials have been reportedly working on a plan to smooth this process. Then came Friday’s bombshell report from Der Speigel that Greece was threatening to leave the EU and that officials were holding emergency meetings on the subject, which further rocked the already reeling EUR. The report was denied by both Greece and the EU, though these were discounted because there were indeed emergency meetings on both Greece and Portugal.
- As we’ve noted for weeks, a restructure (or exit) by any of the PIIGS would have ramifications far beyond these size of the specific debtor nation. Either event would undermine the reliability of the 11 year old currency, and would also risk raising credit costs for the remaining PIIGS block and pushing them closer to a similar fate. Fears of contagion risk alone could be enough to send the EUR spiraling lower, along with all risk assets, as it did just about a year ago.
- As always, a weakening EUR means a strengthening USD, which in turn put more pressure on commodities and commodity currencies.
- Note the below weekly EURUSD chart.
EURUSD WEEKLY CHART COURTESY OF ANYOPTION.COM 08may08 0206
Points to note include:
- The EURUSD’s over 3% loss this past week, took it out of the double Bollinger Band Buy Zone (bounded by the upper 2 orange and green bands), which per this indicator means the weekly uptrend since the start of 2011 is for now no longer strong enough to justify new longs. See 4 RULES FOR USING THE MOST USEFUL TECHNICAL INDICATOR, DOUBLE BOLLINGER BANDSfor more on these.
- However it closed only slightly out of the zone, and its 10 week EMA support held, suggesting that once it closes back in the buy zone around 1.4370 it may be time a classic buy on the dip opportunity. Even I admit this, and I’m a Euro bear.
- Yes, the EU debt crisis concerns are worsening, and rate expectations have been cut. However now that reduced rate expectation may have been priced in, the pair may be due for a bounce as it’s been able to resist PIIGS debt crisis news for most of the year. Much depends on how adroitly the EU manages to delay if not resolve threats of restructure or EZ dropout threats from Greece or elsewhere.
- I don’t like the EUR’s long term prospects, it meets none of the 4 criteria for a decent currency union. Per Mauldin & Tepper’s superb book on the global debt cycle, Endgame, these are: (we quote)
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