Learning to Live With Higher Oil, KCM Trade Analysis

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KCM Trade's Chief Market Analyst Tim Waterer Market Commentary: "Learning to Live with Higher Oil?"

The market is learning to live with higher oil prices, as evidenced by gains on the major US indices on Tuesday. However, the big question is, for how long? Right now, solid earnings are coming to the rescue and are helping divert market focus away from the fact that oil prices are advancing. While we are not yet back to triple-digit oil, it can’t be ruled out should a ceasefire of any sort remain hard to come by. The energy market now has the dual-Strait worry, with the Bab el-Mandeb Strait looking like it could join the Strait of Hormuz as a hot spot, as traders closely watch shipping numbers in the Red Sea. Brent has moved through the $90 level, and while risk assets are putting on a brave face despite the higher energy prices, if we get to the psychological $100 oil level that could be another thing altogether.

Higher oil and a lift in Treasury yields helped push the Dollar Index back above the 101 level this week. The yen continues to wallow in the absence of any intervention by Japanese monetary authorities, while the British Pound is burdened by the prospect of boosted fiscal expenditures under the new PM Any Burnham. While the Fed are unlikely to hike rates at next week’s FOMC meeting, a hike is still likely on the way, perhaps in September or December (according to interest rate futures pricing) and this yield outlook remains supportive of the greenback.

Gold managed to shrug off the combination of a higher USD and higher oil to reclaim the $4,100 level. However, a ceasefire or diplomatic breakthrough may be required in order to lower oil prices and open up more meaningful upside for the precious metal. Recent price dips below $4,000 have found bargain-hunting buyers which have provided a floor of sorts, but a conclusive or convincing break higher remains elusive. Support awaits at $4,020 and $3,970, with near-term resistance at $4,140.

Looking ahead, the next batch of US earnings due this week, with Tesla and Alphabet among the highlights reporting on Wednesday, will be closely watched. From a risk appetite perspective, traders will be hoping that the corporate sector can keep hitting home runs with earnings reports and outlooks so as to buttress the market against this current predicament of higher oil prices. Strong results and upbeat guidance could help maintain the current resilience in risk assets, but any signs of margin pressure or cautious outlooks, particularly in the tech sector, could quickly shift sentiment.

In summary, the market is showing resilience in the face of rising energy costs, supported by corporate earnings and selective rotation. However, the geopolitical risks around oil supply routes mean that higher-for-longer energy prices could become a more persistent headwind. Investors are balancing the hope of diplomatic progress against the reality of potential supply disruptions. Next week’s FOMC meeting and the continuation of earnings season will be critical in determining whether this delicate balance holds or begins to fray.