The Overnight Report: Commodity Shakeout

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By Greg Peel

The Dow fell 42 points or 0.4% while the S&P fell a steeper 0.9% and the Nasdaq 1.1%.

It was an unusually volatile day’s trade ahead of the Fed rate decision tonight. Out of the gates the Dow fell over 100 points on the release of the June personal consumption expenditure measure – an alternative measure of inflation – which came in with an 0.8% rise. This was the biggest monthly jump since 1981. This meant that when adjusted for inflation, June consumer spending fell 0.2%, and that puts the stimulus cheques in somewhat of a new light. The higher inflation number sparked fears of a rate hike ahead, but then June was all about the oil price.

So when the oil market opened, Wall Street took on a new tone. There was a conflagration of weekend news conspiring to tip oil over once more, and the inflation measure, which reflects tougher times for the economy, also helped.

In the latest argy-bargy development in the Middle East, Iran has once again hinted it may be amenable to some form of conciliation. Senator Obama has also suggested that he may not be opposed to President Bush’s plan to open up more offshore drilling, which the Democrat-led Congress has been opposed to, and he has also made note of how quickly the oil price would drop if some of the Strategic Reserve were released. But one of the bigger influences in oil’s fall was weather-related, with Tropical Storm Eduardo appearing to be less threatening than first thought.

Oil fell rapidly and at one point traded briefly under US$120/bbl. By the close of the session it had settled at US$121.41/bbl – down US$3.69. With oil dropping, the broad market found some consolation and began to rally back, and at 3pm was up over 50 points.

But the oil price fall also triggered what has been threatening for some time now – a big rout in commodity prices. With the US dollar mixed on the inflation/slowing economy news, oil fell 3% but natural gas fell 7%. Corn fell 5%. Base metals ran into a double-whammy, as news of rising inventories greeted the groundswell of fund sellers. It was not pretty. Aluminium fell 2%, copper 3.5%, lead 6%, nickel 2% and zinc 3.5%.

A rumour did the rounds that a big hedge fund had decided to exit its commodity positions. However the fund selling appeared relatively widespread, and it was noted that for the first time since February 2007, hedge fund short positions in oil exceeded long positions in July. As the commodity sell-off gained momentum in the afternoon, commodity stocks were particularly hard hit on Wall Street, which explains why the S&P was down significantly more than the Dow. The Dow slipped to be down 42, but notably the financial sector, which had dropped sharply on the inflation news, rallied back during the afternoon. The switch is on again.

Gold fell US$15.50 to US$894.20/oz. The Aussie remained steady at US$0.9296 ahead of today’s RBA rate decision.

Forgotten in the mix was news that US factory orders rose by 1.7% in June – the biggest gain in six months and about double expectation. However, if you correct for the high price of oil and oil products and also for military spending, the number wasn’t quite as exciting as it appeared.

The SPI Overnight fell 44 points. BHP Billiton ((BHP)) and Rio Tinto ((RIO)) were both down over 5% in overseas trade. Shares in News Corp ((NWS)) jumped over 1% on the company’s second quarter earnings report.

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