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Digging Deeper into the Charts
Oil markets remain volatile, with no end in sight. President Trump's two-week window to decide whether or not the US is going to join Israel in their current fight with Iran is unlikely to quell the unease. The fallout is that while implied oil price volatility has eased slightly, it remains elevated, and the skew in oil remains call biased, suggesting the market is seeing upside price risk.
Interestingly enough, although parts of the market are signaling upside price risk, the shorts have not given in. As our dry powder chart shows, the change in short side positioning is limited, short interest among speculators fell just 17% WoW, while the open interest on the long side hardly moved.
As part of a forthcoming update to our commodity charts, we will soon introduce trader-based sentiment scores. This week's WTI Directional Sentiment Index remains negative, while the Non-Directional Sentiment measure (chart below), which evaluates market sentiment based on who is putting on spreading trades as opposed to directional trades, continued its slow upward trend. This suggests that market participants continue to favor playing the shape of the oil curve, rather than engaging in outright directional trades. We suspect that as long as our non-directional sentiment index continues to trend upward, the price of oil will remain capped, barring any dramatic geopolitical events.
It is worth noting that, based on recent research by the US Federal Reserve, for a geopolitical event to have a lasting impact on oil prices (an effect that does not fade in less than 3 to 6 months), the event will need to have an effect on at least 20% of global supply. The only event of this nature on the horizon is a theoretical closing of the Strait of Hormuz. We believe that is an improbable event, but we will admit to being little more than armchair geopolitical strategists when it comes to Iran.
In the US, producers are fading the rally, with the US rig count falling by one to 554, a fifth straight decline. Although not all oil field service providers are as heavily leveraged as others to the US rig count, the directionality of the rig count is in line with the equity sector returns for most US listed oil field serive providers. The industry pain did not start this year; the oil service sector has suffered for several years now. The sector's valuation (based on EV/EBITDA) continues to fall.
For those willing to tolerate the pain, it might be an interesting place to look for bargins.
Finally, we are unsure what to do with this factoid, but we found it interesting. Recent events have prompted ICE Exchange to act, raising margin requirements on oil contracts by 24%. We looked into the frequency of a margin changes, and while it is not unheard of by any means, it's not common. ICE uses volatility-based risk models, so this may have come as no surprise to market participants, but it seemed noteworthy given the relative rarity and size.
Essential Real Asset Reading
Lithium Sector Review
We are uncertain about the long-term growth outlook presented in this paper, but we find it an interesting review of the current state of the lithium market. The questions the paper seeks to answer are certainly the right questions for lithium investors to be asking at the moment:
1) How low will lithium prices go this cycle?
2) How long will the lithium industry be in overcapacity?
3) Will China relinquish its dominant position in global lithium refining?
We are currently 10 quarters into the latest decline in the lithium price, and at the current price, 4 of the 9 largest publicly traded producers are losing money.
DR/Rwanda Peace
Rwanda and the Democratic Republic of Congo have agreed on a draft peace deal to stop fighting in eastern Congo. The agreement will be officially signed next week and includes plans for disarmament and joint security. This deal aims to end conflict and bring investment to the mineral-rich region.
Despite peace, there is still fighting in Eastern Congo. The M23 rebels are advancing in eastern Congo, causing chaos and weakening the Congolese army. The Islamic State-linked ADF group is taking advantage of this chaos to attack civilians and expand. Uganda and Congo are trying to fight both groups, but the ADF remains dangerous and hard to stop.
Batteries Are Making the Electrical Grid More Reliable
Batteries help the electrical grid by quickly storing and releasing power to balance supply and demand. They reduce reliance on traditional power plants and support clean energy like solar and wind. Battery storage is growing fast in the US and is making the grid more reliable and efficient.
In Search of Gold…
India aims to be a major world power but struggles to match China and the U.S. in influence. Despite economic growth, internal issues and illiberal trends weaken its global standing. India's desire for multipolarity may hinder its ability to effectively counter Chinese power and secure strong international alliances.
Tariffs & Manufacturing
Tariffs set by the Trump administration will not bring back many manufacturing jobs and may even reduce them. Most job losses in manufacturing come from technology, not trade. Also, export growth often balances out job losses from imports, so tariffs do not help much.
Until next week,
