Short covering fuels Christmas rally
The Santa rally looks like regaining momentum with a seventh consecutive day of gains. This comes amid signs that short sellers have found themselves on the wrong side of recent moves in commodities and resource stocks.
Sentiment towards the commodity sector was helped by a surprisingly large drop in US oil inventories last week as well as recent signalling from Chinese authorities that more stimulus is on the way. The resulting rally appears to have some investors scrambling to react.
However it’s not clear that either the drop in oil inventories or extra economic stimulus by China will be significant positives for commodities over the medium term.
The big drop in oil inventory is certainly a short term relief. Instead of growing as the market expected, inventories actually fell to levels not seen since the end of October. However, there was little change in US oil production. This remains stubbornly entrenched at around 9.1m barrels a day. While this remains the case there will be no medium term relief to the overall market dynamic where oil production remains well in excess of demand
While China’s authorities signalled the possibility of more aggressive fiscal and monetary stimulus, they also noted that reducing excess industrial capacity and decreasing the housing stock would be key policy objectives for 2016. This suggests China will continue to look at a policy framework that directs stimulus away from traditional infrastructure development. If that is the case, China’s stimulus initiatives are likely to be of limited and indirect benefit to “capex” commodities such as iron ore and coking coal.
US personal spending and income growth continues to paint a positive picture for the world’s largest economy. Household income continues to grow steadily, encouraged by another good month of wage growth which will please the Fed. At the same time, consumers remain in a prudent frame of mind. November’s relatively high 5.5% savings rate suggests the benefits of lower gas prices are being saved. Even so, consumer spending continues to underpin an outlook for continued overall growth and falling unemployment. The high savings rate provides a solid foundation to this growth in the US economy.
Frequently Asked Questions about this Article…
A Santa rally refers to the tendency for stock markets to rise in the last week of December through the first two trading days in January. This can be a positive time for investors as it often leads to gains in stock prices, potentially boosting portfolio values.
Short covering occurs when investors who have bet against stocks buy them back to cover their positions, often driving prices higher. During a rally, this can amplify gains as more investors rush to cover their shorts, contributing to upward momentum in the market.
Recent developments include a significant drop in US oil inventories and signals from Chinese authorities about potential economic stimulus. These factors have contributed to positive sentiment in the commodity sector, although their long-term impact remains uncertain.
The drop in US oil inventories is significant because it was unexpected and indicates a short-term relief in supply levels. However, with US oil production remaining high, the long-term market dynamics of excess supply over demand are unlikely to change.
China's economic policies, focusing on reducing industrial capacity and housing stock, suggest a shift away from traditional infrastructure development. This means that any stimulus may have limited benefits for commodities like iron ore and coking coal, affecting their demand and prices.
The US economy appears strong, with steady growth in household income and personal spending. A high savings rate indicates that consumers are cautious but still spending enough to support economic growth, which is encouraging for investors.
A high savings rate, like the 5.5% seen in November, provides a solid foundation for economic growth. It suggests that consumers have a financial cushion, which can support spending and investment in the future, contributing to a stable economic outlook.
Consumer spending is a key driver of the US economy, underpinning overall growth and helping to reduce unemployment. Despite high savings rates, continued consumer spending indicates confidence in the economy, which is positive for future growth prospects.
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