US strength bolsters energy, kills precious metals

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Energy commodities received a boost from economic data coming out from the US indicating broad-based economic strength: private sector hiring is strong, output is better than expected and consumer sentiment is upbeat. The elevated capacity utilization of refiners, falling crude supplies amidst rising gasoline demand at the pump, together with the cold season in the US confirm that the strengthening macro picture of the US economy is reflected in the bullish outlook for energy sector at the micro-level. Undermined are safe havens assets and the stimulus-fed sentiment in precious metals on which bullish arguments for gold and silver have hinged for too long: the assumption of looming inflation shocks and dollar devaluation.

The outlook may be bullish for WTI Crude Oil and Henry Hub Natural Gas, each standing out as US biased commodities to position for the economic strength building in the US. Against this macro backdrop, the investment case for safe haven assets is diminished further and may trigger more selling pressure in gold and silver.

Investors sharing this sentiment and seeking exposure in commodities may consider the following long and short positions:

Long positioning energy:

  • Boost WTI Oil 3x Leverage Daily ETP (3OIL)
  • Boost Natural Gas 3x Leverage Daily ETP (3NGL)
  • Boost Natural Gas 2x Leverage Daily ETP (2NGL)

Short positioning precious metals:

  • Boost Gold 3x Short Daily ETP (3GOS)
  • Boost Gold 2x Short Daily ETP (2GOS)
  • Boost Gold 1x Short Daily ETP (1GOS)
  • Boost Silver 3x Short Daily ETP (3SIS)
  • Boost Silver 2x Short Daily ETP (2SIS)

The taper fear is trumped by the strong performance of the US economy

The taper fear factor is evaporating. Trumping it is the strong economic data coming out from the US last week, underscoring mounting evidence the US recovery is broad-based and gathering strength. While faced with headwinds during October’s budget and debt ceiling standoff when hundreds of thousands of civil servants were furloughed and consumer and business confidence was dented, US nonfarm payrolls nevertheless added over 200K on average over the last three months, the bulk coming from the private sector. Moreover, previous Q3 GDP estimates for the US were revised upwards from 2.8% to 3.6%, largely as a result of stock building. While it may imply destocking in Q4, the strong hiring by businesses should suggest that economic expansion has more structural support than the cyclical data suggests. Seen from that perspective, the stock-building in Q3 may have come as a result of businesses anticipating stronger spending power of consumers in Q4. Given the sharp rebound in Michigan’s Consumer Sentiment Index to 82.5 for November, it supports to the view that US consumers will close the year with higher levels of confidence and a greater willingness to spend.

Sentiment in commodities with a strong bias to the US economy is upbeat. Not only is this a result of an improving outlook for energy demand in the US, it is also supported by relative tight supply expectations. Along with falling crude inventory levels in the US, last week’s meeting of OPEC outlining subdued production targets suggests more fundamental support for crude oil in general. With the cold season adding to the positive sentiment in demand for natural gas, the prices of which this year have more closely followed those of WTI Crude Oil, expectations for Henry Hub Natural Gas may be bullish too. Having risen 24% and 13% respectively this year, the rally in WTI Crude Oil and Henry Hub Natural Gas may continue into the final weeks of December.

Rising interest rates reflect more upbeat economic expectations and less financial risk

In contrast, save haven assets look set to suffer in this environment, not least because the threat of the US Fed preparing a QE exit is growing. Given that QE tapering has plagued markets since May, the new record highs attained by major equity markets of late suggests that rising longer term interest rates are increasingly a reflection of upbeat growth expectations and less of a financial risk. Helped by the Fed’s careful rhetoric not abandon QE just yet, the bond yields are likely to go through a slow and managed pace of increase. Absent of indicators pointing towards inflationary pressures building, the rise in real interest rates in the US instigated by the tapering fear effect is providing fundamental support to the dollar longer term. It undermines the devaluation and inflation trade on which safe haven assets such as gold thrive. If gold has failed to reverse the downtrend when it was most obvious, during the brief episode in October when a dysfunctional US Congress was on the brink of letting the government wilfully default, then the lingering taper talk since the summer signalling lasting strength taking hold of the US economy may be a prelude to further weakness in gold. Judging from the sentiment of investors, outflows in gold ETFs have started to accelerate since October while inflows in silver ETFs have reversed during the same period. This ongoing loss of support by investors with longer term investment horizons suggest the crunch in gold and silver is more fundamental and no longer only driven by active investors and the unwinding of opportunistic long positions by speculators.

An opportunity may arise for investors to consider a pairs trade:

1) A bullish bet on WTI Oil and Henry Hub’s natural gas. Investors with a high risk tolerance may consider a long position with potential returns amplified by high gearing factors, such as the Boost WTI Oil 3x Leverage Daily ETP (3OIL) or Boost Natural Gas 3x Leverage Daily ETP (3NGL), while investors looking for a lower risk strategy, may consider Boost Natural Gas 2x Daily ETP (2NGL).

2) A bearish bet on gold and silver, offering investors with different tolerances for risk short positions with varying degrees of gearing. Investors may consider the Boost Gold 3x Leverage daily ETP (3GOS), Boost Gold 2x Leverage daily ETP (2GOS) or Boost Gold 1x Leverage Daily ETP (1GOS) to short gold, while Boost Silver 3x Short Daily ETP (3SIS) or Boost Silver 2x Short Daily ETP (2SIS) may be considered to short silver.