By Stephen Innes
Oil markets: Frenzied Action
Oil has sprung another gusher overnight, and in roaring fashion clocked an eye-watering 3% surge. Brent has hit $85, while WTI has hit $75.40 - the highest levels in over four years.
There haven't been any new significant near-term catalysts per se to drive the price action. Mind you, given the bullish headlines of late, it's not like the market needs one to keep the momentum going. But the Baker Hughes oil count dropped, suggesting a slowdown in US production, which I forgot to mention yesterday while caught up in the Sinopec and Saudi spare capacity debate.
But one barometer that's hard to ignore, Oman oil prices spiked to $90 a barrel, which could be a foreshadowing of things to come on Brent. Indeed, this high-water market has intensified the bullish fervour and triggered a buying frenzy across oil markets.
Ultimately, the markets remain singularly focused on the prospect of supply disruptions from Iran, which is the primary driver of oil prices. And of course, the US/Mexico/Canada trade agreement will have a longer-term positive impact on oil prices in a broader macro context.
Brent by the numbers
Iran sanctions go into effect on November 4, and while there's significant variance in estimates, I think it's safe to assume that approximately 1.5 million barrels per day of Iranian crude will go off-line. Despite that projected decline and falls in Venezuelan output, OPEC total production still edged higher during September, suggesting the markets are anticipating future supply scarcity rather than a current shortage.
Looking to last week's data, bullish bets in Brent continued to build, with net longs increasing 28,465 contracts to 496,343 contracts. But the extensions in WTI, on the other hand, was trimmed, with net longs in the US crude declining some -965 to 332,143 contacts, confirming that Brent is leading the charge as suggested by step-by-step rotation in contracts, and indicates the Brent-WTI spread could widen significantly in the weeks ahead.
Risk traded mixed in Asia yesterday as it so often does when a strong USD begins to emerge, while regional sentiment turned downcast after China manufacturing PMI disappointed over the weekend. But outside of some clear-cut distinctive developments in the INR, it will be tough to form any definitive conclusions in Asia markets given the diminished mainland liquidity because of Golden Week. Frankly, all the local focus remains on China, so their absence is telling.
US stocks rose as the US-Mexico-Canada trade deal sparked an initial rally on Wall Street. But as the session wore on, it quickly became apparent that investors were more relieved than anything else. Early enthusiasm gave way to the reality that some contentious trade issues have yet to resolved, suggesting a significant source of tension does remain. Nonetheless, the framework does remove at least one massive tariff-related risk from the global financial market, and just as significantly, it allows the US administration to now focus exclusively on its escalating economic dispute with China.
Italian assets are back in the fore as uncertainty over how the EU will receive Italy's budget rears its ugly head. The BTP-Bund spread has widened out, Italian banks have led losses in European equities, and the EURUSD plumetted the 1.1565 support levels overnight. Despite reversing some earlier losses on the back of NAFTA euphoria, as excitement quickly fades on that front investors remain on a razor edge ahead of October 15, when the budget will be submitted. It should be a challenging few weeks for European investors, as EU markets remain extremely sensitive to headline risk as the lingering fear of European contagion continues to percolate.
Gold markets: For whom the bell tolls
Any which way but up. A strong US dollar, higher US interest rates and resurgent risk appetite on back of the North America trade agreement suggest the bell tolls for gold prices. However, the primary drag for gold prices will be the repricing higher of Fed rate hike expectations. With that in mind, Friday's NFP will go a long way to cement or rebuff the market's current hawkish FOMC lean.
Between now and then, unless there is an unlikely colossal dollar positive trigger ahead of Friday's critical economic print, I suspect last Friday's low-water mark around $1181 could be a bridge too far, while offers are lined up at $1195. So, effectively, gold is consolidating ahead of NFP in a new $1185- $1195 range on a bearish tangent.
Please curb your enthusiasm and get ready to sit on your hands until NFP. Reactions have been muted overnight to US data, suggesting focus is squarely on Friday's wage component of NFP, so it could be a relatively muted week as currency traders try to navigate a myriad of risks.
The USD was relatively quiet overnight, but not unexpectedly so. The USDJPY edges toward 114 and consolidates, while the EURUSD continues to hold on by a thread. Currency markets are playing out pretty much as scripted.
The Canadian dollar easily held onto gains, but chatter about reserve manager demand around 1.28 suggests traders will be more inclined to sell on upticks, as this could be a specific short-term obstacle if they do sit on the bid. Despite the ducks lining up for a stronger CAD, markets are not entirely out of the weeds just yet. While my Bay Street colleagues, who tend to side with the Canadian dollar perma bears anyway, didn't exactly run with the baton overnight and greeted the deal with relief rather than enthusiasm, I still think we will move lower and test 1.2720, but it's going to need a little bit of help from BoC guidance or a miss on this week's NFP. The former a possibility, the latter unlikely.
Japanese Yen and Euro
But overall, the USDJPY higher remains the most robust conviction trade with the NKY and US bond yields looking higher. USD bulls remain cautious about selling the euro at these levels and effectively chasing the EU political wobbles. I think the euro will struggle to gain traction anyway after last week's tepid EU inflation print, but towards 1.1500, the risk-rewards on a short position tend to diminish, in my view, given that politically inspired moves on the euro typically tend to have a very short half-life.
In another case of "say it ain't so," the Indian rupee has melted. With Brent setting sights on $90 per barrel with the vapid chatter of even $100 per barrel extension, the one-month USDINR NDF is trading at an all-time high. The oil move, coupled with a possible RBI rate hike to "defend the rupee at all costs," has dented local equity sentiment as well. Frankly, at this point, an RBI rate would be ineffective and would provide about as much relief as a band-aid would for a broken leg. But the big problem now is, if the move extends to USDINR 74 or even 75, at some point this will ultimately weigh on India's ability to service foreign debt. This is shaping up to be a brutally negative story line for India's capital markets.
On the opposite side of the regional oil spectrum, the MYR remains supported by oil, but the ringgit is not entirely embracing the move.
The resurgent USD and higher US bond yields are weighing on local sentiment. Not to mention yesterday's weaker-than-expected China PMI has soured sentiment. But with regional liquidity running low due to Golden Week, trading could remain muted ahead of this week's essential US NFP release.