China data may wrong-foot oil bears again

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Oil markets are betting that key China indicators due this week will likely confirm a slowdown in the world's second-largest economy, despite recent official data showing surprise growth in factory activity.

Beijing releases trade figures for July on Thursday, while wholesale and consumer inflation, fixed asset investment, industrial output and retail sales data for the month are due on Friday. Softer headline numbers may suggest reduced demand for primary inputs and will be negative for risk assets.

This week's "figures can suggest a range of possibilities but I believe a slowdown is in place which will bring oil lower," said Jay Richards, Investment Manager at GTL Capital Management in Sydney.

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Though the results of CNBC's weekly sentiment survey do reinforce that view (fifteen of the 26 respondents, or 58 percent, believe prices will decline this week) just under a third (eight out of 26 of those polled) are bullish, implying a non-negligible risk that the China data may reveal a positive surprise, possibly wrong-footing the market bears.

Over the weekend, China delivered upbeat growth figures for its services sector, which came on the heels of official factory activity numbers released last Thursday which showed an unexpected expansion in July. Both economic reports have raised optimism that this week's data will be equally resilient.

"China will do whatever is within its power to stabilize and halt the slowdown in their growth," said Sean Hyman, Editor of Moneynews at Ultimate Wealth Report. "We'll see their GDP growth rate remain in the 6.5 percent to 7.5 percent range. I don't think it's going to slump as much as people think. It's already 'a known' that China is slowing. The worst is likely behind them."

Hyman added: "Investors almost always overly punish to the downside - more than what is warranted. I think they've done that with things that are most affected by China such as commodities and the Aussie dollar."

Case for stimulus

Oil bulls also make the case that any China data-led losses may be limited by expectations that the central government will respond to slowing economic activity with calibrated stimulus measures.

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"It's quite clear that the government is ready to step in to ensure the economy doesn't come to a screeching halt," said Kelly Teoh, Market Strategist at IG Markets Singapore. "Even if the data is terrible and the market reacts poorly to it, I would expect the government to announce policies which will be seen as positive."

However, inflation is the wildcard of the China data-set and the rising price of pork - which accounts for a major component of the food portion within the Consumer Price Index (CPI) - may give China's policymakers less room to maneuver , Robert Prior-Wandesforde, Director, Asia Economics at Credit Suisse told CNBC's 'Squawk Box' on Monday. "A pick-up in inflation won't help the case for stimulus," he said.

Economists forecast July CPI may rise by around 2.8 percent year-on-year, according to an August 4 report in the China People's Daily. Data from the Ministry of Commerce and the National Bureau of Statistics showed that prices of poultry, vegetable, seafood and soybean products have all been on an upward trend since mid-July due to high temperatures, the report said.

(Read More: Oil Bulls Bank on 'Goldilocks' US Jobs Data)

The extremely high number of speculative bullish bets in the oil futures market makes it prone to a correction and downbeat China data could be the catalyst, said Eugen Weinberg, Commerzbank's Global Head of Commodities Research.

"I see the medium-term (1-3 months) risks for the oil prices clearly downwards biased," Weinberg said. "It's not so much the data which concerns me but the massive speculative overheating. Last week the Commitment of Traders report by the CFTC showed the massive increase in speculative length to over 300,000 for the first time ever. The market is priced to the perfection and if something goes wrong - for instance, Chinese data - a strong turnaround is likely."

—By CNBC's Sri Jegarajah. Follow him on Twitter @cnbcSri.