oil | Billionaire's Portfolio

June 12, 5:00 pm EST

Remember, last week we talked about why $50 is a very important level for oil.

A recent Dallas Fed survey has the breakeven level for shale producers at $50. In other words, the shale industry needs oil prices above $50 to produce profitably.

If the shale industry becomes unprofitable, that becomes a problem. As we found in 2016, when oil prices crashed, the shale industry became vulnerable. Defaults started lining up in the industry, which made banks vulnerable. When banks are vulnerable, credit tends to tighten and the financial system can quickly become unstable.

Now, as we know, the price of oil bounced from that $50 area last week, but we’re getting another test today. Oil was the mover of the day — down close to 4%, and back under $51.

This, I suspect, will play a very important role in the Fed decision next week.

Despite the fact that expectations point to a rate cut in July, we’ve discussed the pressures building that might lead the Fed to move next week (which would be a big surprise for markets). Oil plays into that scenario.

Stocks and crude oil have been two clear influences on Fed policy over the past few years. The latter weighs on inflation. While the Fed claims to ignore the influence of food and energy in their inflation measure, they have a history of acting when oil moves sharply. On that note, oil is down 22% over the past year. And, again, we’re testing an important level that can have spillover effects into the economy. That’s why a sharp decline in oil prices tends to influence stocks. That’s why the charts of stocks and oil have tracked so closely …

So, we’ve had a nice bounce in stocks over the past week or so. We had the same for crude. But now crude is back testing the lows of this decline.

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Can Stocks Force The Hand Of The Fed … Again

May 2, 5:00 pm EST

We talked about the technical reversal signal in stocks that developed yesterday, following the Fed press conference.

Stocks continued lower today. We’ve now had a quick 2% decline from the top.

And now we have this technical breakdown in oil as well (the break of the yellow trendline from the Dec lows).

In the post-financial crisis world we live in, oil prices going down is generally representing a gloomier outlook on global growth and global demand. Oil prices going up is good news — representing a hotter demand/hotter growth outlook. And as you can see below, oil prices and stock prices have tended to move together.

The recovery in oil prices has been almost in lock-step with the recovery in stocks (aggressively bouncing). Crude is up 57% in four months.

Now, yesterday I asked the question: Can stocks force the hand of the Fed, again (i.e. can lower stocks force a rate cut from the Fed)?

If oil prices were to fall hard from here, then maybe. Why? The Fed is afraid of deflationary pressures. And while they like to talk about their assessment of inflation, excluding the effects of volatile oil prices, they have a record of acting on monetary policy when oil prices are falling quickly — especially in this post-crisis environment where deflation has been a persistent threat throughout. They acted in 2016, and they’ve acted in early 2019 — in both cases taking projected interest rate hikes off of the table.

But the case for another crash in oil prices isn’t there. We continue to have supply cuts outside of the U.S. (OPEC and non-OPEC countries). Trump has recently stepped up sanctions against Iran, with the goal of taking Iranian oil exports to zero. That takes supply out of the market. And the political crisis in Venezuela has created supply disruptions for the oil market.

The shale industry is expected to plug the supply gap. As it stands, the shale industry may or may not be able to. But keep in mind, oil demand has been estimated on what is (and has been) low expectations for the global economy. If we’ve seen a bottom in China, it would set up for positive surprises in the global economy. And that means the supply necessary to meet global oil demand, would be underestimated. With that, higher (if not much higher) oil prices from here remain the higher probability scenario.

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V-Shaped Recovery For Oil Prices Underway

April 2, 5:00 pm EST

Oil is one of the biggest movers of the day, now back above $60.

That’s nearly 50% higher from the lows of late December.

Is that surprising? It shouldn’t be. Declines in both stocks and oil (late last year) were triggered by threats of sanctions on Saudi Arabia. We talked about it as it transpired in these daily notes. The stock market decline started on October 3rd when headlines hit that implicated the Saudi Crown Prince in the murder of the journalist, Jamal Khashoggi. Oil topped the same day, and then accelerated the day Trump spoke with the Saudi Crown Prince on the phone on October 16. Oil opened that day at $72 and hasn’t seen the level since (forty-three days later it was trading at $42).

The Saudi capital flight threat dissolved as it became clear later in the year that the U.S. would sanction Saudi individuals only — and not the Crown Prince, nor the government. Sill those geopolitical risks early on, soon turned into eroding sentiment — as lower stocks, feed weaker confidence.

But we’ve had a full “V-shaped” recovery in stocks. And I’ve suspected we would see the same in oil prices. And the catalyst has been a coordinated response from global central banks, not too dissimilar from what we saw in 2016, following another oil prices crash. Oil and stocks rallied aggressively back then. And we’re seeing a similar result this time.

Remember, we looked at this chart back in February…

Here is a look at the chart now as crude continues to recover the declines of late last year (working toward completing the “V”)…

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Fed On Hold Drives Green Across The Screen For January

January 31, 5:00 pm EST

With the Fed officially on hold, asset prices continue to lift-off. But with U.S./China talks concluding today, there was the potential for a spoiler.

Trump quickly stepped in front of that risk this morning, saying that no final deal would be made until he and President Xi meet “in the very near future.”

So the expectations of a final “yea or nay” on a China deal today were managed down. And with that, the recovery in global markets finished the month of January on a strong note.

What a difference a month makes. In December, people were beginning to worry that collapsing global financial markets would kill the global economic recovery — and maybe fuel another financial crisis. A month later, and the S&P 500 sits just 2% lower than the close of November (before the December rout). And in January, almost every market is in the green (from stocks to bonds to commodities to currencies).

Remember, if we compare this to last year, cash was the best performing major asset class (returning just less than 2% in dollar terms).

On Friday, we talked about the set up for a big run in commodities this year. Commodities continue to lead the way. Crude is up close to 20%on the month. Copper is up 6% for January (the commodity known to be a early indicator of turning points in the economy), and gold is up 3.5% just in the past week.

We also end the month with another very solid opening to earnings season. Despite all of the pessimism of the past quarter. The Q4 earnings continue to beat expectations. Importantly, the widely held tech giants have posted good reports: Facebook, Apple and Amazon.

Importantly, with the expectations bar set low coming into 2019 (for earnings, the economy and a China deal), I’d say we finish the first month of the year in position to exceed expectations on those fronts – thanks, in no small part, to the pivot by the Fed.

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Big Trendline Break In Stocks

January 30, 5:00 pm EST

Remember, over the past three weeks, the major central banks in the world (the Fed, the ECB and the BOJ) reminded us of the script they have followed, and continue to follow, since the global financial crisis. They will do ‘whatever it takes‘ to keep the economic recovery going.

It took an ugly decline in stocks in December to resurrect the defensive stance from the architects of the decade-long global economic recovery. Confidence matters, as it relates to the economic outlook. And stocks heavily influence confidence.

With that, the Fed raised the white flag on January 4th when they marched out Bernanke, Yellen and Powell at an economic conference to reset the market expectations on monetary policy (moving from a four rate hike forecast for 2019 to a ‘wait and see’ approach). They solidified that stance today.

Removing this risk, of the Fed offsetting the benefits of fiscal stimulus, is continuing to prime global markets. And we get a break of this trendline today in stocks — from the correction that originated from the record highs of October.

With the Fed behind us, the attention turns to the U.S./China meetings, which are underway. Let’s revisit the one indicator from China that they are working to pacify the Trump administration. It’s the Chinese currency.

Remember, we looked at this chart back on January 11 of the U.S. dollar/Chinese yuan exchange rate …

In this chart, the falling orange line represents the Chinesestrengthening their currency. And, as we can see, they have been showing a willingness to make concessions, walking it higher since the December “trade truce.” Make no mistake, the trade war is all about China’s currency. Ultimately, a free floating currency in China would be the solution to the trade imbalances and dangerous wealth transfer of the past few decades. To this point, it has been reported that they are presenting a plan to balance trade with the U.S. in six years. Maybe currency is part of it. We shall see.

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Key Charts

January 9, 5:00 pm EST

We discussed yesterday how markets might look by the end of the year, if the pontifications about a global slowdown and impending crisis are dead wrong.

The reality: That is the low probability outcome. The higher probability outcome is another 3%+ year growth in the U.S. in 2019, a resolution on the Chinese trade dispute, and a rebound in emerging market growth.

With the “high probability scenario” in mind, let’s take a look at some key charts that look very vulnerable to a sharp squeeze.

Remember, oil and stocks have been in a synchronized decline since October 3.

On Friday we looked at this chart on oil, and the break of the big downtrend that accompanied some rate-hike relief jawboning from the Fed.

Today the chart looks like this …up almost 9% from Friday.

Here’s the chart on stocks we looked at on Friday …

We broke a big level on Friday at 2,520. We’re up another 2.3% since.

What about yields? The fear in the interest rate market hasn’t been/wasn’t that the economy can’t withstand a 3% ten-year yield. The fear has been the speed at which the interest rate market was moving, and the methodical tightening process of the Fed. Would 3% quickly become 4%?

The Fed has now backed off. That quells the fears of a “too far, too fast” adjustment in rates. But the interest rate market had already been pricing in the worst case scenario (another recession and crisis, in part thanks to the Fed policy). If that was an over-reaction, I suspect we’ll see a move back toward 3%-3.25% in the 10s in the coming months. As you can see in the chart, this big line is being tested today. And as long as the Fed stays data dependent, not telegraphing another series of hikes, the market should accept a 3% ten year yield just fine.

To sum up: Markets tend to be caught wrong-footed at the extremes — leaning too hard in one direction, with sentiment too depressed or too exuberant. And I suspect we’ve seen that extreme in Q4. Sentiment was deeply shaken by the sharp decline in stocks, and that spilled over into the outlook for global economic stability.

But as we discussed yesterday, we have a Q4 earnings season upon us that is set up for positive surprises (given the sharp downward adjustment in expectations). And if Trump gives some ground to get a deal done with China, these key markets are set up for big and sharp recoveries.

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Collapse In Oil Prices Have Taken The Pressure Off Of The Fed

November 27, 5:00 pm EST

Earlier this month, we talked about the big fall in oil prices.

If we look back over the past five years, the magnitude of that move is only matched (or exceeded) in cases where there was significant manipulation in the oil market and/or a systemically threatening oil price crash.

As we’ve discussed, the pressure on oil this time around seems to be about manipulation — and appears to have everything to do with Trump’s leverage over the Saudis (related to sanctioning the Kingdom over the Khashoggi murder).

But we’ve now traded down to the important $50 mark. That’s 35% from the highs of just October 3. And this is an inflection point where it could go bad, but it also could present a goldilocks scenario (a level that’s just right for the U.S. economy).

Sure, cheap oil is good for consumers. You save a few extra bucks at the pump. But in the current environment, it presents risks to the financial system. The shale industry’s break-even point on producing oil is said to be $50. Below that, they dial down production, lay off workers, stop investing and quickly become a default risk to their creditors (U.S. and global banks). We saw it back in 2016. The same can be said for those countries heavily dependent on oil revenues (i.e. they become default risks as oil prices move lower).

That’s the bad side. The good side to the oil price slide? As we’ve discussed, it should relieve some pressure on the Fed. The Fed likes totalk about their inflation readings excluding effects of volatile oil prices. But they have a record of acting on monetary policy when oil is moving.

The bottom line: Oil plays a big role in their view on inflation. And given the quick drop in oil prices, the Fed’s concerns about inflation should be cooling. Again, this opens up the door for the Fed Chair, tomorrow, to take the opportunity in a prepared speech at the Economic Club of New York, to signal a pause coming in the Fed’s rate normalization program. That would be a positive catalyst for economic and market confidence.

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Gridlock In Washington Should Give The Fed An Excuse To Pause

November 14, 5:00 pm EST

Later today Fed Chair Powell will be speaking at a Dallas Fed event. We’ve talked over the past two days about the potential for Powell to use this opportunity to dial down expectations of a December rate hike.

Overnight, Japan reported a contraction in their economy for the third quarter. And this morning Germany’s GDP report showed the first contraction in more than three years. Meanwhile, U.S. core CPI came in softer than expected this morning. And the headline number will be hit, in the next reading, by a 28% plunge in oil prices.

Add this to the outlook for gridlock in Washington on any further pro-growth policy-making, and Powell has the perfect excuse to start telegraphing a pause on rate hikes.

If he does, expect stocks to respond very favorably. We will see. He speaks at 6:05pm EST.

Here’s a look at stocks and the decline of the past month, as we head into this Fed discussion on the economy …

Technically, today the S&P and the Dow both hit a big retracement level and bounced aggressively. This sets up nicely for the Fed discussion.

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Oil Decline Will Change The Inflation Picture

November 13, 5:00 pm EST

In the past two notes, I’ve focused on oil. And that does indeed seem to be the tail that is wagging the global markets dog.

Oil lost another 8% today. Over the past 31 days, crude prices have dropped 27%.

You can see in the chart above, we’ve dropped 27% over the past 31 days. The other big drops in crude were in February of 2016 (the crash) and in November of 2014 (OPEC’s refusal to cut oil production).

Interestingly, these historic crude price declines were occurring as the Fed was preparing markets for the beginning of its normalization campaign (i.e. moving rates away from the emergency zero interest rate level). And it was these price declines that threw a wrench in those plans.

Despite what the central bankers say, oil prices have a big influence on their read on inflation. Lower oil prices put downward pressure on inflation. And as oil prices were plunging from 2014 through 2016, the Fed clearly and dramatically held back on their rate hiking plans.

On that note, remember yesterday we talked about the prospects that Powell (Fed Chair) may use the opportunity to dial down expectations of a December rate hike, if we see some soft data this week (growth data from Japan and Europe and inflation data from U.S., Europe and UK). We now have a big haircut on oil prices to factor into the inflation data. That too, may give him the excuse to pause on rates. We’ll hear from him tomorrow at a Dallas Fed meeting.

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Momentum Building For A Big Run In Markets And The Economy Into The Year End

August 27, 5:00 pm EST

The momentum is building for a big run for markets and the economy into the year end. And there are a ton of opportunities.

We have the Dow, which has massively lagged performance of the Nasdaq throughout this post-correction recovery. And even as the S&P 500 has regained new record highs, the Dow remained about 900 points from the January highs. That gap is quickly closing. This makes blue-chip stocks a buy.

Commodities are in the early stages of a bull market, but have been stalled by trade uncertainty and a stronger dollar. Both have now cleared. Trump is winning on trade. And he now appears to have successfully influenced a turning point in the dollar. Both are fuel for commodities prices that have every fundamental reason to be soaring (including a hot economy and a big infrastructure spend coming). This makes commodities stocks a buy.

On the interest rate front, as we discussed Friday, the Fed Chair’s recent comments indicate that the current level of rates could be appropriate, given they don’t see risk of inflation accelerating over their target nor do they see an elevated risk that the economy may overheat. That has turned the tide in the dollar (lower). And it may actually be the catalyst to steepen the yield curve, as the interest rate market starts pricing OUT the risk of overtightening on the economy. Remember, the skittish crowd has been pointing to the flattening yield curve as an indicator that recession is brewing for the economy. A steepening yield curve would take that debate off the table, and would be very good for financial stocks.

And the calming on trade and rates make emerging market stocks very interesting. Remember, when the news hit that China would make concessions on trade, we looked at this chart in Chinese stocks and said the bottom is probably in. Chinese stocks are up 5% already, and have a lot of room to run.

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