By Barani Krishnan
Investing.com -- Markets tend to overcorrect on the way down and overreach on the way up. A 2% drop in crude prices on China’s COVID lockdowns can be surprising given Beijing’s relative overzealousness in dealing with the pandemic when the rest of the world has moved on from it.
Likewise Friday’s 5% rally in oil, driven apparently by talk that China is easing its so-called COVID-Zero policy.
Really?
Each time I hear speculation of Beijing backpedaling on its COVID policy, I’m reminded of John Kilduff’s short take on Chinese lockdowns, which, despite its seeming flippancy, is as accurate as any long McKinsey perspective on the matter. “You’ll hear today that China is reopening, only to hear next week that they’re re-closing,” Kilduff, a founding partner of New York energy hedge fund Again Capital, told me. I laughed then, and still laugh at how right he was about people who take the Chinese government too seriously.
I’m inclined to believe the oil rally on Friday was in response to news that the Group of Seven nations, along with Australia, had finally agreed to set a fixed price on Russian oil. This had been a compromise to finding a floating rate which had been nigh impossible for proponents of the plan.
Vladimir Putin, who has weaponized Russian energy in every form, except by name, has threatened to withhold oil from countries that participate in the G7 plan, which simply intends to limit Moscow's ability to fund the Ukraine war without throttling global crude supplies.
Fears of the Kremlin’s reprisal to the G7 plan had been one of the key elements that had put a floor under oil for months now, preventing it from sliding below $80 a barrel even during the summer selloff in crude.
Expectations that the Fed could still resort to a rate pivot - despite countless back and forths on this - was another factor cited for oil’s upside on Friday.
U.S. jobs numbers overshot forecasts again in October but the hedge funds that typically send the dollar rallying on that chose this time to hammer the greenback - handing a win to oil and the rest of the commodities complex.
To lend credence to the speculation of a Fed pivot, several policy-makers at the central bank were talking Friday about smaller rate hikes than the aggressive regime advocated by Chairman Jerome Powell just two days before at his all-important news conference that follows the monthly decision on rates.
Powell told reporters on Wednesday that he thought the time was approaching for the central bank to slow down - not pause - the pace of its rate hikes, and that could come as early as its December or February meetings.
But equally important, he stressed, was the “need to bring our policy stance down to a level that's sufficiently restrictive to bring inflation down to the 2% objective over the medium term”.
Since March, the Fed has raised interest rates six times in a bid to contain inflation, with four jumbo-sized hikes of 75 basis points from June onwards that brought rates to a peak of 400 basis points from just 25 in March.
The question is what is “restrictive” here. Chicago Fed President Charles Evan suggested on Friday that even a 50-basis-point hike could be a deterrent, versus the 75 basis points that policy-makers have become accustomed to.
“From here on out on rate hikes, it's not front-loading anymore,” Evans said. “Even with smaller rate hikes, there is ample room to tighten monetary policy.”
The Fed’s target for inflation is just 2% per annum. But the Consumer Price Index, or CPI, has been expanding four times faster - growing 8.2% during the year to September, after a 40-year peak of 9.1% in the 12 months to June.
Evans’ remarks suggested that he wanted rate hikes to be less intense, even if it meant a longer road to getting inflation the Fed’s way.
The Chicago Fed chief made clear that he supported the 75-basis-point hike imposed for November. But he added: “If inflation reports are not favorable and the Fed still wants to hike expeditiously, you can do 50-bps, repeatedly. When the Fed is closer to the peak policy rate, it may reduce rate increases by 25 basis points, or risks may become two-sided.”
At least two other Fed policy-makers appeared to think alike.
“It makes a lot of sense for the Fed to switch to smaller rate increases,” Boston Fed President Susan Collins said Friday.
Tom Barkin, who heads the Richmond Fed, said a slowdown was already being completed by various decision-makers at the central bank. “I can credibly say that the Fed has its foot on the brake,” he added.
Investors, economists and business leaders have warned for a while now that the Fed’s aggressive rate hikes could land the world’s largest economy in a recession - just 2-½ years after the last slowdown that broke out with the coronavirus pandemic in mid-2020.
The U.S. economy did sputter in the first two quarters of the year, with back-to-back negative growths of 1.6% and 0.6% in Gross Domestic Product that technically placed the nation in a recession. Third-quarter GDP, however, came in at a resilient 2.6%, raising questions of whether another economic slowdown was likely or a soft landing was possible instead.
What will really bring about Fed consensus on a rate pivot is data overwhelmingly pointing to slowing inflation.
For that, the October update of the CPI - due next Thursday - shouldn’t be another scorcher for prices.
If it is, then the Fed pivot is as believable as the China reopenings.
Oil: Market Settlements and Activity
Futures of New York-traded WTI, or West Texas Intermediate, and London-traded Brent closed up 5% Friday as oil bulls found their rhythm after being stymied for days over news of COVID lockdowns in top oil-importing nation China.
Both crude benchmarks had also slumped on Thursday in a belated reaction to the Federal Reserve’s renewed pledge from a day earlier to keep raising interest rates to curb inflation at four-decade highs.
The Fed’s stance then had driven the Dollar Index, which pits the greenback against the euro, yen, pound, Canadian dollar, Swedish krona and Swiss franc, to a three-week high of 113.035 on Thursday.
But on Friday, the Dollar Index dropped to below 111 at one point despite the United States adding 261,000 jobs last month in its October nonfarm payrolls report, almost 35% more than the 195,000 anticipated by economists.
Ed Moya, analyst at online trading platform OANDA, noted that the nonfarm payrolls report was “mostly hot, [with] a strong headline number, upward revisions, and further wage growth,” yet the “dollar is getting crushed here.”
“If the dollar continues to slide here, oil’s strength could be relentless,” Moya added.
WTI did a final trade of $92.60 on Friday, after officially settling the session a penny higher at 92.61 - up $4.44, or 5%, from Thursday. The session high was $92.81, marking a nine-week high after the U.S. crude benchmark breached $90 this week for the first time since Oct. 11. For the week, WTI rose 5.4%.
Brent last traded at $98.75, after officially settling at $97.67 - up $3, or 3%, per barrel. The global crude benchmark hit a session high of $98.74. Its weekly gain was about 2%.
Friday's oil rally was further fueled by fears of the Kremlin’s reprisal to the G7 plan to cap the selling price of Russian oil in order to limit Moscow's ability to fund its invasion of Ukraine without throttling global supplies. Russian President Vladimir Putin has threatened in the past not to deal with countries that participate in the G7 plan or to suspend crude exports altogether, in retaliation against the scheme.
Oil: WTI Outlook
"WTI's action remains well supported by the 100-Day SMA of $88.60, with a scaling towards the 200 Day SMA of $97.70 next on bulls' agenda," SKCharting.com's chief technical strategist Sunil Kumar Dixit, said, referring to the Simple Moving Average.
Immediate upside target/resistance for WTI would be the 50-week Exponential Moving Average of $93.77, he added.
Gold: Market Settlements and Activity
It sounded almost like one of those allegations of manipulation you commonly hear in gold - only this time, those making the accusation were gold bears, not bulls.
Gold had its best percentage win in 2-½ years on Friday as the hedge funds that typically hammer the yellow metal at any given opportunity gave it surprising love instead after the monthly U.S. jobs report again overshot expectations - a situation that would normally benefit the dollar rather than gold.
U.S. gold futures settled Friday’s trade up 2.8% as the benchmark December contract finished up $45.70 at $1,676.60 per ounce on New York’s Comex. Investing.com data showed it was the biggest percentage win for gold in a day since April 2, 2020, when the benchmark contract then rose 2.9%.
On a weekly basis, December gold rose 1.9% for its best week in four.
The spot price of bullion, which is more closely followed than futures by some traders, settled Friday at $1,681.38. Just on Thursday, spot gold hit a five-week low of $1,616.69.
Gold: Price Outlook
Dixit of SKCharting said gold prices will likely retreat a little here before picking up again.
“As gold becomes overbought on intraday 4 hour timeframes, some pull back towards $1,673 and $1,660 can not be ruled out,” said Dixit. “If prices slide lower towards $1,645, buyers will use it for re-accumulation while others may use correction as an opportunity to cover shorts.”
Dixit said gold bulls’ breach of $1,681 is likely to lead to an extended rally in the $1,720-$1,785 area, though some sideways movements will keep the yellow metal volatile too.
“The important thing is that if gold manages to close the month above $1,735, the short and mid-term outlook will change to bullish. After 7 months of relentless beating, some bullish reaction for at least two to three months is expected.”
Gold commentator Mark Hulbert had a different opinion though, saying the rebound was unlikely to last.
Hulbert’s take was that the yellow metal had to have a complete meltdown before it could rise again from its ashes, not unlike the proverbial phoenix.
“Long-suffering gold bugs will likely have to suffer a while longer,” he wrote in a blog post that ran Friday.
"That’s because gold traders on the whole have not thrown in the towel and thereby given up on the yellow metal. Only when this so-called capitulation occurs will contrarians be confident that a bottom is at hand. Though there have been several occasions this year when it appeared that capitulation was imminent, gold traders stepped back from the cliff every time.”
Friday was “yet another occasion” when gold bulls failed to do the necessary, added Hulbert.
Disclaimer: Barani Krishnan does not hold positions in the commodities and securities he writes about.