By Ole S. Hansen

DUBAI — Commodities trading was mixed during the final week of May. A month that turned out to be the comeback month for many markets following the COVID-19 related collapse seen during Q1. The continued easing of lockdowns around the world have, despite dismal economic data, raised hopes that a V-shaped recovery may occur over the coming months. This is optimism we unfortunately do not share — with millions of workers unlikely to return to work, together with the risk of the virus re-emerging as some economies attempt to open-up too soon.

The Bloomberg Commodity Index traded lower, with the energy sector giving back some of their record gains seen after the April collapse. Industrial metals also traded softer on rising US-China tensions despite the National People’s Congress introducing new stimulus measures. A challenge to precious metals was quickly reversed with both gold and not least silver continuing to attract demand amid a weaker dollar, lower real yields and friction between the world’s two biggest economies.

While silver continued to claw back some of its substantial March losses, gold’s resilience was tested once again this past week. The lack of follow-through momentum from the recent breakout to $1,765 had left the market nervous and it culminated when the spot price briefly broke below $1,700/oz this past week. However, just like the break to the upside failed to attract fresh buying, the break below support was not met by fresh selling.

Instead, support was quickly reestablished as the dollar and bond yields moved lower on increased US-China tensions. Investors continue to view the yellow metal, and recently also silver, as the go-to metals for protection. While hedge funds, which often trade on the back of a short-term technical price developments, have been rather quiet in recent months, the demand for ETF’s backed by bullion has continued to go from strength to strength. Global holdings in gold-backed ETF’s have risen non-stop for the past six months with assets at a record level above 3,100 tons.

The same goes for silver which, despite its March slump, has seen total holdings rise strongly to reach fresh records on an almost daily basis during the past couple of months. Having rallied by 50% since that March low at $11.65/oz, the metal has also managed to claw back some ground against gold. The gold-silver ratio, which expresses the value of one ounce of gold in ounces of silver, has recovered from the record 125 level reached in March to the current 98, still well above the five-year average close to 80.

We maintain our bullish outlook for both metals, not least gold now that its premium to silver has narrowed. The main reasons why we cannot rule out reaching a fresh record high over the coming years are:

• Gold acts as a hedge against Central Bank monetization of the financial markets

• Unprecedented government stimulus and political need for higher inflation to support debt levels

• The inevitable introduction of yield controls in the US forcing real yields lower

• A rising global savings glut at a time of negative real interest rates and unsustainably high stock market valuation

• Raised geo-political tensions as the Covid-19 blame game begins

Rising inflation and a weaker US dollar

The crude oil rally that emerged following the sub-zero collapse on April 20 is showing the first signs of pausing. This after the WTI futures contract hit $35 resistance and Brent failed to challenge $37.2/b, both levels being the 38.2% retracement of the January to April sell-off. The brief collapse into negative territory last month on the expiring May WTI contract probably was the single biggest contributor to support the strong rally that followed.

The event on April 20 sent a shockwave through the global oil market with producers realizing that something dramatic had to be done in order to rescue the market from even more pain. This probably led to the very strong and rapid compliance that major producers have been exhibiting during May.

In their latest monthly Oil Market Report the International Energy Agency saw global supply drop by 12 million barrels/day in May to reach a nine-year low at 88 million. Demand meanwhile was expected to recover from being down 22 million barrels/day year-on-year in May to down 13 million in June.

Supporting the process has been the rapid and in most cases involuntary reduction in US shale oil production, now estimated by the IEA to reach 2.8 million barrels/day year-on-year in 2020. Previous production cuts by OPEC+ always attracted some level of hesitancy as members of the group risked yielding further market share to producers in North America. That risk evaporated with the slump in WTI as it left many producers out of pocket, thereby forcing them to halt production.

Having potentially reached the consolidation phase, it is worth considering what could trigger renewed weakness. There are several risks with the most relevant being:

• Easing lockdowns sparking a resurgence of Covid-19 outbreaks

• Whether OPEC+ can maintain the current high level of compliance

• Cash strapped US producers desperate to increase production with WTI back above $30/b

• Post-pandemic changes in global consumer habits (less flying and more working from home)

A break above $35/b on the July WTI futures contract could signal a potential extension towards $40/b while support should emerge at $30/b. Only a break below $28/b would raise concerns of a deeper correction.

Apart from the risk of a new trade war between the US and China, as well as a weaker-than-expected demand recovery, the oil market focus in early June will once again turn to Vienna where OPEC and the OPEC+ group convene to discuss a path forward.

Some concerns that Russia may struggle to commit to current cuts beyond July may once again create some nervousness prior to the June 8 to 10 meetings. This on the grounds that the recovery in crude oil prices so far has primarily been driven by supply cuts, that can easily be reversed, and not yet a solid recovery in demand.

HG Copper increasingly, just like crude oil, looks like it needs a period of consolidation. Having almost retraced most of its COVID-19 related sell-off in March, the metal is likely to struggle in its attempt to break back above $2.50/lb, a level which provided support but now resistance, since 2017. The National People’s Congress in China, which has just finished, offered fresh stimulus measures that will increase demand for raw materials in key sectors such as construction and transport.

Overall, however, it was not the fiscal bazooka the market has seen during previous downturns. While perhaps stabilizing the outlook it is unlikely to drive a recovery in growth back to the 6% level. For now, traders are holding onto the prospects for a global economic rebound outweighing increased tensions between the US and China.

Corn, a recent favorite short-sell among hedge funds, was heading for its biggest weekly gain since last October. The recent recovery in crude oil has led to increased demand from ethanol producers who normally consumer close to 40% of the US corn production.

Together with the potential short-term threat of hot and dry weather across the US Midwest, the price has moved higher and it now looks like a floor has been established at the key $3/bushel level. Speculators held a net-short of 245,000 lots (31 million tons) in the week to May 19 and continued short-covering could see the contract challenge an area of resistance above $3.40/bushel.

Wheat is also finding a weather-related bid while soybeans remain troubled by US-China tensions hurting the prospect for Chinese demand.

Coffee’s COVID-19 related rollercoaster has gone full circle. After rallying by 25% during March on worries supply from South America would be disrupted the price has since collapse once again. The prolonged shutdowns around the world have since reduced demand for quality beans from coffee shops and cafés.

This week the price broke support and dropped back below $1/lb and well below the current cost of production for many farmers across South America. Something that may get addressed when the International Coffee Organization hold a virtual meeting of its International Coffee Council from June 1.

— The writer is head of commodity strategy at Saxo Bank