Commodities Recover after Selloffs but Near-term Risks Remain

ONG Focus | Insights | Written by Oil N' Gold | Wed Nov 24 10 00:48 ET

Market sentiment remained fragile in Asian session today despite mild recovery in most assets after yesterday's selloffs. The focus yesterday was intensified tensions on the Korean Peninsula. The attack was described as catastrophic and the most serious incident in the region after the Korea war. Geopolitical tensions drove investors to safe-haven assets and therefore we saw rally in US dollar and gold. Worse still, sovereign crisis in peripheral European economies remained worrisome even after Ireland requested bailout. Political chaos in Irish government raised concerns that the budget plan may not be passed. 2 days after Moody's warning of a multi-notch downgrade of Ireland's credit rating, S&P lowered its rating on the country by 2 steps with a negative outlook. In the commodity sector, gold was probably the best performer with the benchmark contract rising to a 2-week high of1382.9 before closing at1377.6, up +1.46%. Crude oil price plunged with the front-month WTI contract slumping to as low as 80.28 before ending the day at 81.25, down -0.60%.

South Korean President Lee Myung-bak called the shelling of a South Korean island by North Korea as "an invasion of South Korean territory". South Korea fired back and scrambled F-16 fighter jets. Lee believed ‘enormous retaliation is going to be necessary to make North Korea incapable of provoking us again'. Elevated tensions between North and South Korea have caught international attention. UN Secretary General Ban Ki-moon condemned the attack, calling it ‘one of the gravest incidents since the Korean War' while Russia's Foreign Minister Sergei Lavrov said there's ‘a colossal danger' and ‘it is necessary to immediately end all strikes'.

Tensions between the 2 Koreas have intensified from time to time. Yeonpyeong Island, the area where the shelling was directed, is near the disputed border between the 2 countries. Naval skirmishes occurred near the area in 1999 and 2002 has also triggered a short-term rally in gold price. In March 2010, a South Korean warship sank and killed 6 sailors around the area. Gold price also surged as North Korea's denial of responsibility tensions intensified tensions between the 2 countries.

Just 2 days after Moody's warning of a multi-notch downgrade of Ireland's credit rating, S&P lowered its ratings on the country by 2 steps with a negative outlook. According to the rating agency, Ireland's long-term sovereign rating is reduced to A from AA- while the short-term grade to A-1 from A-1+ as ‘the Irish government looks set to borrow over and above our previous projections to fund further bank capital injections into Ireland's troubled banking system'. The rating is now on “CreditWatch with negative implications', suggesting further downgrades cannot be ruled out should the situation deteriorates.

It's hard to identify whether gold's rally was driven by the Korean incident or sovereign woes in the Eurozone. However, simultaneous strength in gold and the dollar indicate that risk aversion is high. Although oil and other growth assets recovered today, we believe these are only technical rebounds after the sharp selloffs yesterday. We advise caution on the near-term outlook.

 

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