Commodity Update – Market sentiment influenced by Syria and US Fed tapering

by: Casper Burgering , Hans van Cleef

Oil prices driven by Syria and Fed tapering

Now US support for military action in Syria is no longer an issue, it seems to be a matter of time before the actual attack on Syria is a fact. The main question is what this will do with oil prices. We believe that, during the attack, oil prices will find some support. This is after all the Gulf region where approximately one third of global oil production takes place. A test of this year’s high (USD 119.70/bbl) could be seen and oil prices may even jump above USD 120/bbl for a short-period of time.

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Oil production within the region already dropped significantly within Iraq, Iran and Libya. This production is replaced by increased production in Non-OPEC region and Saudi Arabia. So, the contagion risk will lead to an increased risk premium of several dollars. Nevertheless, since the US indicated that this will be a limited strike, which is not meant to depose the Assad regime, the risks should be short-lived. Our base case scenario indicates that there will be no escalation within the region and, as a result, oil production will be unaffected or only for a limited extent. Therefore, we expect oil prices to ease in just a few days after a possible attack, bringing it back to current levels, or even lower. Of course, in case of escalation – especially towards the major oil producers like Saudi Arabia, Iraq and Iran – oil prices could rally much further for a longer period of time. Again, this is only a risk scenario which we do not believe it is likely to occur. A lot will also depend on timing. If an attack takes place ahead of the Fed meeting, focus could shift towards the Fed and the awaited announcement of tapering the stimulus measures. This would certainly push oil prices lower. If an attack, however, will happen after the Fed meeting, the immediate impact of the Fed announcement could be dimmed as investors will continue to focus at the tensed situation in the Middle East. In all cases, we expect oil prices to ease in the medium to longer term based on Fed tapering leading to higher yields and a stronger USD, in combination with ongoing global oil overproduction. Therefore, we have no plans to adjust our oil price forecasts in the near term, even if Syria does come under attack.

Steel price and raw materials down

The average price for steel (global, hot rolled coil) has decreased by 20% over the last two years and settled at USD 579/t on 3 September. Weak sentiment, poor demand and overcapacity are weighing heavily on the sector. Although the number of transactions is currently also influenced by seasonal factors, demand volumes by end-using sectors are still below their pre-crisis levels.

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Conditions are especially worrisome in Europe and China, while the US is performing relatively better. And together with sluggish steel market conditions, demand  for raw materials (iron ore, coking coal and steel scrap) also deteriorated and prices decreased accordingly. Since the start of 2013, however, prices for steel scrap and coking coal decreased more strongly than the prices of steel and iron ore. And with steel prices maintaining their current level and some restocking activity after the summer lull, raw material suppliers will be able to negotiate price increases going forward.  Longer term, conditions are expected to remain feeble. Producer discipline is not forthcoming in China. Steel output in China continues to increase, despite government announcements that steel production by small and inefficient mills will be cut. This is weighing on prices.

US natural gas rallies within downtrend

The rally seen in US natural gas prices has meant that it has broken out of its downtrend. Since the low set on 8 August, the US Henry Hub 1st contract rallied by more than 17% to USD 3.67/mmBtu. Hot weather conditions in the central part of the US, triggering an increased use of air conditioners, was the main driver. Although stocks are approximately 7% below last years’ record level, the current level is still 2% above the 5-year average. While summer demand will run to its end, winter demand will come into place. We expect US natural gas prices to continue to trade higher in the coming months.